Let's say you earn 500k and your cost of living is 200k leaving you with 300k additional disposable income. Assuming a 7% increase in your cost of living, you still have $300-$200*.07 additional disposable income. The question now is, why should the company be the one absorbing this loss and not the employee selling the labor, to put it bluntly, let alone adding an extra 7 percent to your extra $300k? Even if they are able to pull a price increase, they will be under pressure by shareholders to keep the profits to preserve the share price to offset the collapsing multiples. Surely at the borderline compensation levels or below, cost of living increases can make a material difference to the employee's ability of providing their services in the first place, out of their control (analogous to a negative gross margin for a vendor), and force them into pursuing an alternative solution (reducing expenses, moving to a different location, moving to a different industry).
However, if the employees are significantly above that limit, the primary reason the employee is able to justify their additional earnings must be competition in the labor market, so that should be the driving factor here as well.
The company doesn’t have to… unless the employee decides to leave for that reason. Now adding an extra 7% is not about inflation but about retaining (good) employees.
I imagine that for bad or not good enough employees, the decision is rather easy for companies: let them go.
> Now adding an extra 7% is not about inflation but about retaining (good) employees.
Sure, and that distinction is the entire point, i.e. retention for [Silicon Valley and similar] tech employee is likely not dominated by the value of 7% but what the labor market dictates in terms of compensation, benefits, and company culture; could be a lot higher but by-and-large not directly driven by consumer price increases.
However, if the employees are significantly above that limit, the primary reason the employee is able to justify their additional earnings must be competition in the labor market, so that should be the driving factor here as well.