ifo Schnelldienst 23/2002

Germany's weak economic growth

The red tail light

The reasons for Germany's weak growth and the necessary reforms

Hans-Werner Sinn

The locational and economic weaknesses of Germany have reached alarming proportions. Unemployment has risen for thirty years, and growth is stagnating. Germany is being overtaken by one EU country after the other. The euro has robbed the German economy of the interest-rate advantage it had under the shield of D-Mark, and the economic failure of German unification is a heavy burden. Only little time remains for recovery, before the ageing of the population dissolves the strength for a new upswing. Japanese conditions have not yet set in, but they remain a threat. The increasing number of insolvencies and the bank crisis are harbingers of future problems. The European Central Bank has the responsibility of preventing deflation in Germany, but such policies alone will not suffice to get the country back into gear.

In the first place, national measures for reviving economic growth must be aimed at unemployment. In the medium term there is no avoiding a mobilisation of the labour market. Growth can be achieved through more employment, because more employment means more production and because an increase of jobs would be a clear sign that investing in Germany is again profitable.

Labour costs, apart from rents, are virtually the only enterprise costs that are site bound. Therefore, a strategy that makes Germany competitive again in the medium term and leads to new investments must start with labour costs. Other possibilities that can help solve the German problems have all been tried, or they have come too late. Certainly educational reform must be introduced in order to overcome the embarrassment of the PISA comparison, but one should not harbour any illusions. Educational reform will only bear the expected fruits in the very long term, after a generation.

The key element for reasonable policies that activate the labour markets is a reform of collective bargaining laws and the welfare state, because both elements are responsible for wage rigidity, which is the main reasons for German unemployment. Industry-wide wage agreements must be loosened by opting-out clauses for individual companies. The agreements should be given the role of wage directives that are valid for so long as the majority within the company decides otherwise. A partial decentralisation of the negotiation process would increase the autonomy in bargaining and free it from the reputation of being a cartel agreement.

The welfare state should be gradually restructured from a system of wage substitution to a system of wage complements. The motto must be that everyone should work at whatever wage is possible. If the wage does not correspond to the social ideas of the society, the state must add so much that in the sum of the self-earned and governmental money the targeted earnings are achieved. It is inefficient and humanly disrespectful if the aid that society offers is on the condition of remaining idle, as is the case today in Germany. The step from a passive to an activating welfare state is long overdue.

The aim is not to reduce the welfare state but to alter it in a manner in which everyone can find his place in society and that no one is condemned to idleness. Everyone should be able to contribute productively to the work-sharing economy in a manner that gains recognition from society. If this goal is attained, Germany will again fall into step.

The reforms of labour law and the welfare state must be swiftly implemented. In 2004 the boundaries of the EU will be opened to 75 million eastern Europeans, and no administrative barriers will then be able to curb the forces of competition. Growing low wage competition will confront German firms, capital will migrate to the low wage areas of the east, and poverty fugitives will rush into the country. Under the present circumstances a considerable disturbance in the labour market is to be expected, in particular a rapid rise of unemployment in Germany. This will especially affect the economy of east Germany. It runs the danger of being caught between the productive economy of the west and the low wage areas in the east. The dangers can only to be confronted by a flexibilisation of the labour market via market-economy reforms. How this can be realised is discussed in this issue.