Behind Germany's Crisis,
A Past That Is Crippling
Postwar 'Miracle' Was Built on System
That Now Saps State, Stifles Business
By CHRISTOPHER RHOADS
Staff Reporter of THE WALL STREET JOURNAL
MOENCHENGLADBACH, Germany -- Printing firm B. Kuhlen KG survived the plunge in business during World War I, the hyperinflation of the 1920s and the Allied bombs in the Second World War that destroyed its roof and most of its machinery. It got past strikes in the 1950s and even a bomb threat in 1968.
But last year B. Kuhlen laid off its staff and filed for bankruptcy. "Our old customers kept leaving, and we couldn't get new ones," says Norbert Neuenhofer, the third generation of his family to run the firm. "We fell into a vicious spiral we couldn't get out of."
What finally proved to be too much for the 177-year-old company was the very economic model used to build modern Germany. The same principles that galvanized a devastated nation after World War II -- a broad social safety net, consensus-driven policies and restrained market forces -- have turned corrosive for the world's No. 3 economy.
Germany expects to record more than 37,000 corporate bankruptcies this year, the most since the war and the ninth increase in the past 10 years. One in 10 working-age Germans is out of work, depressing consumption and prices and prompting fears of deflation. Economic growth, which has lagged behind all other major industrial countries except enfeebled Japan, is expected to be just 0.2% this year. Europe's economic motor a decade ago, Germany has steadily declined to the point where it has become a drag on Europe and a growing concern for the global economy.
Reflecting these worries, the European Central Bank Thursday slashed its key interest rate by a half-percentage point to 2.75%, and left the door open to further cuts. (See related article)
What lies ahead for Germany looks even grimmer. A declining birth rate and rising numbers of jobless and pensioners not only hurt the nation's economic dynamism but swell the burden on an already-stretched social welfare state. Workers and employers each pay some 20% of gross wages -- nearly twice as much as 30 years ago -- to finance pensions, unemployment insurance, health care and myriad other state benefits. The worker then gets taxed on what's left, as much as 48% on a salary of $75,000.
One result is that wage costs in Germany are the highest in the world, pricing firms such as B. Kuhlen out of the market and boosting bankruptcies, particularly among the smaller and medium-size firms that can't easily shift production abroad.
German governments for years have avoided tough reforms and just tried to keep the century-old system afloat by raising taxes. But that has squeezed companies and consumers, ultimately increasing unemployment and the strain on the system. Extending the same benefits to the eastern states in reunification 12 years ago, at a cost of about $60 billion a year, has drained the economy further.
Cracks in the System
Meanwhile, the heavy tax burden hasn't been enough to cover the cracks appearing across the publicly funded system. The country's budget deficit is now expected to exceed the limit set by the European Commission's fiscal rules, which could lead to fines amounting to billions of dollars. Desperate to plug the growing funding hole in the pension system, the government last month raised taxes still further, eliciting howls from German business.
"We have institutions that are close to collapse," says Otto Lambsdorff, a former federal economics minister and prominent member of the liberal Federal Democratic Party. "These are not new problems, but they have come to the surface with such power and intensity that we can't close our eyes any longer."
For many Germans, however, the slide has been almost too gradual to notice, which may be one reason why there has been no loud cry for reform. German gross domestic product per capita, a common measure of standard of living, is $22,500, slightly above the European Union average. German cities are clean, office buildings are modern, and BMWs and Mercedes are everywhere.
The problem is much of this wealth comes from the prosperity of the previous decades. Germany still boasts world-beating corporations such as car maker DaimlerChrysler AG and pharmaceutical firm Aventis SA (the result of the merger of Germany's Hoechst AG and France's Rhone-Poulenc SA), but the country benefits less and less from them, as they shift jobs to cheaper locations abroad. Meanwhile, the country's rigid system of high taxes, layoff protection and collective wage bargaining hinders the development of new firms and jobs in growing sectors such as information technology, biotech and services.
Increasingly, that's a risk for a global economy in need of markets other than the shaky U.S. Germany relies on exports for 35% of GDP, more than most countries of its size, and has a perennial trade surplus.
"We benefit from higher growth rates elsewhere, but the rest of the world suffers from extremely low demand from Germany," says Hans-Olaf Henckel, the former head of Germany's main business association and the author of a current best-seller on what ails the country.
Some argue that the only way to achieve the necessary consensus for change is for things to get worse -- much as the 1970s economic collapse in Britain paved the way for the far-reaching deregulation, privatization and union-busting hammered through by Margaret Thatcher in the 1980s.
Many Germans acknowledge that change is necessary. What's harder to accept is that a system that served the country so well in the past is no longer capable of adapting to a faster global economy.
Founded in 1825, B. Kuhlen began by printing Catholic hymnals and prayer books. The firm's early success derived from founder Bernhard Kuhlen's insistence on using the latest printing techniques, imported from Paris and elsewhere, allowing him to be among the first to print in color.
Much of the innovation in the industry at the time came from abroad. Riven by war and religious conflict and unified only in 1871, Germany was slow to industrialize. But an advantage of its late arrival was that it could learn from the mistakes of other countries, such as Britain, where social upheaval accompanied industrialization. The German approach: extensive social benefits that would mitigate dissent and integrate its new disparate citizens by tying them to the state.
What emerged under Chancellor Otto von Bismarck in the succeeding years was an immense, paternalistic social welfare system -- a model that France, Sweden and the U.S. used to build their own welfare practices in subsequent decades.
Social harmony was seen as a prerequisite for Germany's other goal of catching up with its industrialized neighbors. Rather than granting political rights, the conservative Bismarck advocated consensus where labor, business and other interests would collectively shape industrial policy -- though very much under the strict and guiding hand of the state.
Germany had become Europe's industrial leader by 1914, but after two world wars, it again needed an economic plan that would build a new country. West German leaders opted for a degree of free-market openness combined with the country's generous social traditions.
Dubbed the "social market economy," it provided the country with much-needed stability and dynamic growth. The system promoted long-term relations between stable management, practical unions, patient banks and loyal customers, all backed up by a hefty social safety net. Costs were high, which meant firms competed internationally on quality, rather than price.
For B. Kuhlen, these were heady times. From its simple beginnings, the firm expanded after the war into newspapers, magazines, catalogs and a variety of high-end products. It eventually landed prestigious accounts with Daimler-Benz and with expensive French fashion magazines. The work force surged to 400 by the early 1970s, making the company one of the biggest employers in town. It had to slash its staff to 150 in 1973, when a major customer, publisher Axel Springer, pulled its account. But the firm remained profitable and its client base continued to grow. Instead of hiring more expensive workers to meet rising demand, the company relied on innovation and higher productivity. It upgraded its top-of-the-line printers every four years.
High wages acted as "a whip on the economy to modernize," says Wolfgang Streeck, the director of the Max Planck Institute for Societal Research in Cologne. But over the years, as more firms like B. Kuhlen refrained from hiring, unemployment crept higher, straining the system.
Global Marketplace
Germany's growing problems accelerated with the advent of globalization. By the mid-1980s companies, capital and people had become more mobile in searching for new markets and profits around the world. The fall of the Berlin Wall, the arrival of the euro and technological advances blew down national economic borders, creating an increasingly global marketplace. "So long as the German national state had control over its markets, its system was plausible," says Gerhard Lehmbruch, an emeritus professor of political science at the University of Constance. "But internationalization meant it was no longer viable."
Until the early 1990s, B. Kuhlen's competitors fit within a 60-square-mile area in Germany. Those firms had to cope with the same high wages as B. Kuhlen, where they surged to nearly 65% of total costs, including an extra month of pay for a union-negotiated Christmas bonus. A few years later, lower-cost competitors came from Hungary, Spain and Asia. Demanding lower prices than B. Kuhlen could offer, old customers left one by one. In 1999, Daimler-Benz, which accounted for about 5% of total revenue but whose value as a prominent client was worth much more, took its business to a cheaper Spanish printer.
"We had to be better, faster and cheaper than our competitors," says Mr. Neuenhofer, walking through the now-empty building where he played as a child when his father, Hans, was in charge. Computers, desks and printing machines not yet sold lay about, gathering dust. "We weren't able to do that."
Whether Germany will be able to do what it needs to is unclear. Executive power in the government is limited, since it was designed after the war to prevent the rise of another dictatorship. The country's proportional-voting system makes single-party majorities nearly impossible and unwieldy coalitions the norm. Regional states have inordinate influence on the federal level. And nothing seems to happen without everyone agreeing, particularly the unions.
"What was appropriate in the 1950s and 1960s is clearly no longer appropriate today," says Hans Tietmeyer, the former president of the Bundesbank, the German central bank. "What we need are majority decisions and strong political leadership -- we can't wait for a consensus." Mr. Tietmeyer and others calling for reform want more privatization, deregulation and competition, with welfare only for those really in need.
Few Germans, however, are willing to part with their commitment to social responsibility. America's laissez-faire hire-and-fire approach and acceptance of gaping social inequalities aren't the answer, many Germans agree.
But Mr. Streeck and other academics believe Germany's egalitarianism will eventually erode under the costs of maintaining it. If current trends continue, "we will have a dual citizenry of a very accomplished, wealthy elite and then those completely dependent on the welfare state," Mr. Streeck says. Income differences will create a society that will begin to look "a lot like America," he adds.
Signs of declining wealth are already apparent. When B. Kuhlen went bankrupt last year, Karl Kretschmann's four-decade career at the company ended. He spent months in bed, occasionally getting up to walk his dog, Balou. "My lifesaver," he says, patting the gray dog.
At about the same time, his wife, Doris, lost her job with a local frozen-goods company. Then their daughter-in-law, who lives in the apartment below theirs, was let go from the photo-developing shop where she worked. Their son, a fireman, remains employed.
Slowly the Kretschmanns' living standard is eroding. They still own a Mercedes, but they buy certain meats only when they are on sale. They no longer take their annual driving-trip to the Austrian alps. And recently, they had to cancel a big party in a local beerhall for Mr. Kretschmann's 60th birthday, a German ritual.
"What I fear is if we can't hold on to what we have," Mrs. Kretschmann says. "I'm afraid of what comes next."
Write to Christopher Rhoads at christopher.rhoads@wsj.com
Updated December 6, 2002
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As Germany goes so goes the rest of continental (Western) Europe?
Or is the rest of Europe already there? |
