The German Defect
By Gabor Steingart
SPIEGEL ONLINE - July 26, 2005, 06:24 PM
spiegel.de
Europe's largest nation is in decline and has been for several years. The very core of its economy has begun to shrink: a process that no reforms have managed to halt. Germany's problems are rooted deeply in the postwar era.
March 14, 2003 began on an encouragingly unspectacular note. There were no terrorist attacks to report, no high-profile resignations, nobody famous had died. In Berlin, Chancellor Gerhard Schröder strode to the speaker's lectern to present the 33rd government policy statement of his tenure.
Schröder talked for 84 minutes, almost bashfully reading from his manuscript. With little intonation or emphasis he made bald statements such as: "The overhaul and modernization of the welfare state have become unavoidable." He spoke of unmistakable "signs of crisis." He said he would no longer allow "problems to be put on the back burner, just because they seem insurmountable." He presented his "Agenda 2010," alternating proposed austerity measures with appeals for moderation.
The chancellor's speech was entitled "Courage for Change," and it was his most important address to date. No German head of government had ever told the people so candidly what they had long suspected: the era of good deeds was over; the time for sacrifices had begun. His speech on Agenda 2010 could prove a turning point in postwar German history.
For, somewhere along the line, German history had strayed off course. The postwar revival had dipped into gradual decline, initially scarcely noticed by the people. Their heads were still full of that legendary Modell Deutschland, with which Social Democratic Chancellor Helmut Schmidt had campaigned in the 1970s. At first, the entire nation refused to accept that a "shrinking process" had begun at the very heart of the economy, in the country's production core. Agenda 2010 was to serve as a wake-up call that roused the nation from its dreams.
The history of the Federal Republic's growth divides into three chapters, which could hardly be more different. Phase 1 was the golden era from 1950 until 1970, the period which began with the economic miracle (Wirtschaftswunder) and was marked by general prosperity: the economy grew by a fabulous 107 percent before inflation in the first ten years, adding another real 55 percent in the second decade.
No one abroad had expected that from the Germans. Some were amazed, others were frightened, and many were both. It must have been impressive to witness a people rising up from the ashes of their cities to conjure up cars and steel, chemicals and power plants - all in remarkable quality.
The exuberant German politicians gave this most wonderful of worlds the name "German Model" and began acting as though they had discovered a magic formula for rapid growth.
Such was their conviction that many didn't even notice how their heady wonderland had drifted into Phase 2, which ran from 1970 until reunification in 1990. These were sobering years. Unemployment and government debt encroached on the picture, as though seeking to overshadow all the achievements of the economic miracle.
In the 1970s the growth rate measured 31 percent. In the 1980s the economic motor slowed to 23 percent. The annual growth rates of some 8 percent from the 1950s had slumped to just 2 percent. The previously invisible symptoms of crisis now became increasingly apparent. More and more people lost their jobs, most of them permanently vacating their factories and offices. Unemployment skyrocketed more than 1,100 percent from 1970 through 1990.
The national debt increased by 750 percent.
It wasn't until Phase 3 - when the country had grown by 110,000 square kilometers, five federal states and 16 million people - that the pace of decline started to pick up. The lost years began.
The lost years
Since the start of the 1990s, all growth has been financed by new debt - at a cost of billions. Borrowing has outstripped the gross domestic product. Economists refer to this as "growth on credit."
Since then, every economic aggregate has been running in the red. Public indebtedness has doubled within fifteen years to a current 1,400 billion euros. Unemployment has soared by almost 70 percent since reunification. January 2005 marked the first time that more than five million Germans were officially out of work. The success story of the economic miracle was being shown backwards.
The Agenda 2010 strategy hasn't worked so far. Every workday since Schröder's speech, Germany has lost 1,300 fully-insured payroll jobs. In simple terms, people are moving from the asset column to the liabilities column in the national balance sheet. They are no longer generating prosperity; they are consuming it. The decline of the former economic superstar is accelerating with further retirements from the country's productive core.
The problems are deeply rooted in postwar history. The three Western Allies saw the young republic as a bulwark against communism. They wanted the workers of the world to gaze over at West Germany and draw their own conclusions. On their side, the inefficient bureaucratic system of Stalinism reigned; here it was liberal democracy, whose most important hallmark of success was soon to become its welfare system.
A market economy of a peculiar type took shape here, a capitalism less predatory than in the United States. Achievement was supposed to bring rewards, but society still found room for its stragglers, and even for its losers. As much market economy as possible, as much socialism as necessary. That was the credo.
Alongside the social welfare state, a political system developed that was mainly a reaction to the years of Nazi dictatorship. The Allies wanted the government to be weak rather than strong. Efficient administration was not the goal; it was more important to prevent a relapse into totalitarianism. "The Allies," Hamburg's long-standing former Mayor, Klaus von Dohnanyi, would later say, "wanted to decapitate us."
The outcome of the system of checks and balances desired by the Western powers was a bicameral parliament. The framers of the Basic Law, the country's constitution, installed an upper chamber, the Bundesrat, alongside the Bundestag, the lower chamber. The Bundesrat was in no sense merely the "chamber of the federal states," as it is often trivialized. A powerful "federal organ all its own" emerged, as constitutional expert Thomas Ellwein has remarked.
Today the Bundesrat can delay the passage of some 60 percent of all federal laws, and wields a full veto on some 40 percent. Compromises between Bundestag and Bundesrat have to be thrashed out in a mediation committee. Otherwise, the legislation simply stalls - as has often happened in the past.
Germany's system of government is the slowest in the world. Leadership is possible only in exceptionally propitious circumstances, when party constellations in the Bundesrat and government are identical. As a rule the government, Bundesrat and courts constantly get in each other's way. The head of government presides over an institutionalized stalemate.
Hardly less serious in its impact, the new republic's second structural error was built in during the creation of the social insurance system. After the currency reform, Germany had nothing - bar a mountain of work to be done. The scale was gigantic. So was the desire to plow into it. The politicians decided to key the expansion of the welfare state to gainful employment.
No other country in the world has linked its social security system - against the major risks of unemployment, sickness, old age and the risk of total disability - to payroll employment in such a clear, almost categorical way.
The architect of the welfare state
The designer of today's welfare state in Germany was not, as many believe, Otto von Bismarck, but Konrad Adenauer - the first chancellor of West Germany. He created, probably not deliberately but definitely negligently, a disbursement machine that distributed benefits at a level that the country's economic base could not support - from the very outset. He allowed the energy to be sapped from the economy's productive core at a rate faster than its growth should have allowed.
From 1950 through 1964, Germany's economic power quadrupled, but total social benefits increased more than sixfold - from 17 billion deutschmarks in 1950 to 115 billion in 1965. As a consequence, the share of social benefits in the gross national product rose from 17 to 23 percent.
According to Erhard's calculations, that was a world record. Social outlays thus swallowed "a higher share of the national product than in any other country on Earth," the economics minister warned.
Welfare expenditure had doubled since the 1920s, with the result that the economic miracle was followed by a welfare miracle - which Adenauer desired and Erhard feared.
The centerpiece of Adenauer's social strategy was his pension policy. It secured him his place in the annals of decline. The plight of German retirees wasn't rosy at the time, as the chancellor knew. Pensioners had scarcely benefited from the economic miracle at all.
The hyperinflation of the 1920s and the worthless bonds forced upon them in the Nazi period dramatically cut into pension funds. Large amounts of real estate had been lost in the air raids. While the coffers for Bismarck's pension scheme weren't yet completely empty, their contents were fast depleting. The government had to refill them - otherwise its retirees would end up impoverished.
Adenauer was looking for a new type of pension scheme. It was his son, Paul, who finally helped the old man out. In the summer of 1955 he sent Adenauer a thin pamphlet at his Swiss vacation retreat of Muerren. It had been written by Wilfrid Schreiber, a little-known professor at the time who was executive director of the Federation of Catholic Entrepreneurs.
This pamphlet discussed the "solidarity pact between two successive generations." Its central tenet was an appealing idea: in a flourishing economy with rising incomes, any linking of pensions to salaries would automatically increase retirement entitlements.
A pension contribution exacted from people in all forms of employment would allow the billions required to be raised quickly and unbureaucratically. Rather than forcing them to save for years, one big political drive would enable retirees to instantly benefit from the economic miracle.
It was his goal, he declared almost immediately on returning from vacation, to make sure that retirees "could lead decent lives and not have to run around like beggars." A catastrophe followed; Adenauer may not have foreseen the cataclysmic consequences, but had willingly accepted the risk.
For Adenauer greatly simplified Schreiber's seemingly complex ideas by eliminating the economically crucial system of struts and supports between the generations. Originally all earners were supposed to pay into the new scheme, including non-salaried professionals such as pharmacists, doctors, lawyers, architects, tax advisers and accountants.
But the government decided differently. The majority of people in the high-income bracket were allowed to keep paying into capital-backed private insurance. The economically strongest class therefore remained outside the system.
Beyond that, Schreiber's concept envisaged a three-generation model consisting of children, parents and grandparents. It proposed a pension fund and a separately administered children's fund, so that the two generations not contributing added value - retirees and children - were collectively insured. The salaried father with a family therefore paid for the grandfather and collected for the child. Singles paid for both. For Schreiber, it was vital that children were part of this multi-generational social contract.
From a systemic perspective, he felt governments should not collectively insure the risk of growing old while declaring the other major risk in life - having children - a private matter. Both, Schreiber insisted time and again, had to be addressed "simultaneously" and "equally," to avoid exacerbating the problems of a shrinking population.
Adenauer, by that time 80 years old, biased his decision toward his own generation, which was already in full retirement. Families with children received nothing. The seven million retirees of the year 1957 were the exclusive beneficiaries of the contributions collected. They were promised a 10-digit blessing in the run-up to the election.
Overall, pension payments doubled to nearly 14 billion marks in the first year of the new system. Adenauer won the next Bundestag election with an absolute majority.
Schreiber's argument that children should be included was brushed aside by this populist with a single sentence: "People will always have children."
Given the political benefits, all the other forms of social insurance were then expanded - unemployment insurance, health insurance and, in the 1990s, the socalled "nursing care insurance" as well.
Contribution rates exploded because the commitments to the old, young and unemployed remained steady, while the number of contributors fell rapidly. Since the beginning of the 1960s, the birth rate in Germany has halved. The day when there is one earner only per retiree is already in sight.
Professor Oswald von Nell-Breuning, an economist, Jesuit priest and proponent of the pension reform, soon conceded that this was an unmitigated blunder. He called upon the political leadership to level with the public: "Dear people, what we told you back then about keying pensions to gross wages was nonsense. We believed this nonsense too. We had not anticipated the demographic shift and totally ignored its significance."
Yet the country preferred to dream on. Germany kept expanding its wage-indexed social welfare state into the 1990s. It slumbered peacefully as globalization took hold.
The cost of basic labor was increasing on its own, as big things started stirring in the Far East. The old and now vulnerable German industries were still being subsidized as America entered the computer age.
Germany was far too preoccupied with itself in the 1970s to notice the changes occurring in the outside world. Anti-capitalism was booming. In the very hour of its greatest economic successes, people were again seeking to torpedo the new market economy.
Suddenly, productive forces that had unfolded to such fruition before the eyes of the young began to look scary to them. They viewed the older generation's concept of efficiency as flawed.
An unprecedented expansion of the welfare state swung into gear. It now focused not on the needy, but on blue- and white-collar workers, the "new middle" in a phrase coined by Willy Brandt. This formed the foundations on which the new government was built.
The year 1969 brought legislation guaranteeing that non-salaried employees also received their full wages during sick leave. Unemployment benefits also rose to almost 70 percent of the last net salary. In addition, finding a new job only made sense if it was in a similar field and pay range as one's previous job. Welfare assistance was upped - from 117 deutschmarks a month in 1965 to a full 254 deutschmarks ten years later. As with the pensions under Adenauer, welfare was energized. If wages rose, so did entitlements; welfare effectively developed into a minimum wage.
The welfare state therefore consolidated the preeminence it had enjoyed under Adenauer. Social outlays in 1950 were still 17 percent of the national product - the sum of all goods and services changing hands in the country. This figure had already reached 25 percent in 1970 and topped 30 percent in 1980; in plain terms, the welfare state had grown twice as fast as the economy.
Economic growth slowed at the beginning of the 1970s. In 1974 the economy expanded by a negligible 0.2 percent. In 1975 it contracted by 1.3 percent, the first recession of note. The labor market began to erode: jobs disappeared in traditional industries on the coast and in the Ruhr region, while unprecedented rationalization took hold in the modern industries - automotive, chemical and mechanical engineering.
The capital flow reversed; 1971-74 was the last period when capital flowed into and out of the country at the same rate. Germans were investing the same amount of capital abroad as foreign companies invested in Germany - that was how things were in those days.
Then the tide turned once and for all. The inflow of funds slowed, the outflow accelerated dramatically - up 100 percent by 1981, 700 percent in 1991.
No way out
From that point onward, the only real constant in German domestic policy was its failure to implement meaningful reform. Chancellor Helmut Schmidt was the first to try - and promptly lost all backing from his party. His coalition government of social democrats and liberals disintegrated.
Christian Democratic Chancellor Helmut Kohl entered office with a pledge to tackle the necessary reforms, to cut spending, to bring spiritual and moral renewal. "Vote for the upswing," was his slogan. But instead he established a holding pattern. German unity, which plunged the country into delirious rejoicing in 1990, vastly aggravated the economic problems. This political, cultural and humanitarian stroke of good fortune further precipitated the country's decline.
In the East and in the West, the governments didn't just underestimate the difficulties of transforming a command economy into a market economy; they didn't understand the challenge at all. When the economics minister of the time mooted that commerce ran the economy, somebody should have politely escorted him from the government benches.
The billions in assets that the government had projected in eastern Germany simply didn't exist. Industrial productivity there was below one third of the West German level. This productivity in turn was being fueled by a capital stock that was already severely depleted. Later it transpired that, under world market conditions, there was actually a 12-digit deficit. Properties were contaminated with chemicals, sulfur-dioxide emissions were seven times higher than in West Germany and 50 percent above the level in Hungary.
Step by step, East Germany's all but worthless production infrastructure was either privatized or liquidated by the Treuhand state trust - and often enough both. Three-quarters of jobs in the former communist state ceased to exist. "Never before in the history of an industrial nation," says Hans-Werner Sinn, head of Munich's Ifo Institute, "has there been such a spectacular collapse in economic activity."
The blowback for the economy of the new unified Germany today is more serious than politicians could have imagined at the time. From that point onward, tens of billions of deutschmarks had to be transferred from the western economy's productive core to eastern Germany.
Every year, the west of the country pays some 4 percent of its national product to its eastern federal states. With the West itself scarcely posting 4 percent growth, this amount is being siphoned out of its assets. The result is what Klaus von Dohnanyi has termed a "perpetual bloodletting of our national economy."
Thus the reconstruction of the East, which was financed by borrowed funds and higher social insurance contributions, became a program for dismantling the West. With his quick and, as he believed, silent transplantation of the West German welfare state to the East, Helmut Kohl brought devastation to the job markets.
While the western billions helped raise standards of living in the East, this was no way to create a self-sustaining economic cycle. For years it has been apparent that the reconstruction aid for the East has created a state that will forever be dependent on subsidies.
"It's high time for the chancellor to correct the grievous errors of the initial phase," warned Kurt Biedenkopf in March 1992 while still minister president of Saxony. "Helmut Kohl did everything right politically and everything wrong economically," adds Lothar Spaeth, the chairman of the supervisory board at Jenoptik in eastern Germany. But Kohl was no longer prepared to revise his strategy for reunification.
When the coalition of the Social Democratic Party (SPD) and Greens took over the reins from Helmut Kohl in 1998, there were hopes that the change would bring about economic recovery. Gerhard Schröder had cleverly exploited his economic prowess, first within the SPD against his rival Oskar Lafontaine, and then during the campaign against the aging chancellor of reunification, Helmut Kohl.
Schröder claimed he would cut unemployment and forge a social system fit for the future. He wasn't, he said, planning to do everything differently, but to do lots of things better. "If we don't lower unemployment significantly, we won't deserve to be reelected," he concluded.
Years of self-congratulation followed. "Governing is fun!" was the theme of a party held for the SPD's Bundestag delegates.
But there was little governing. It took years for Schröder, who had previously danced adroitly around the stage of domestic politics, to get serious with his Agenda 2010 program. The country was either going to modernize itself or be modernized, he told German parliamentarians. He announced cuts to the healthcare system and unemployment assistance. He had now joined the ranks of those who recognized the problem. And he was even ready to change himself. The "reform chancellor" was reporting for duty.
After the speech he handed his party parliamentary whip, Franz Muentefering, a bouquet of flowers wrapped in clear cellophane - a token of gratitude for his loyalty. Yet the party wanted more. It wanted its pride back, for one. Whenever their chancellor talked of "reform," the party understood "cruelty." He wanted "modernization," the party longed for "fairness."
Forty-seven weeks after his speech, Schröder surrendered his position as SPD party chairman to Franz Muentefering. "Any neglect of the urgent need to take action would represent a dereliction of the oath of office," he said that Friday afternoon. He is the chancellor of reason, but not of reversal. Reality had changed him more than he had changed reality. |
