Download Chapter 6A

From the US subprime mortgage crisis to
European sovereign debt
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The role of Germany in the financial crisis
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After the end of World War II, Germany adopted the
Social Market Economy model, which relied on:
◦ Free markets;
◦ Strong cooperation of employers and employees;
◦ An important role for the government in the economic
system.
© 2016 George K. Zestos
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The Social Market Economy model was successful
as it boosted economic growth in Germany for
many years.
Figure 6.1 shows the annual economic growth rate
of Germany for the period 1951-2013, divided into
six decades, and one smaller sub-period.
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© 2016 George K. Zestos
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During the decade of 1951-1960, Germany
attained an exceptionally high average annual rate
of growth of 8.3%.
Economists named this the Miracle Growth Period.
◦ Known as Wirtschaftswunder in German.
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After the Miracle Growth Period, the German
economy performed well until the late 1990s.
The 1991-2000 decade was a period of slow
economic growth.
During the 2001-10 decade, the European
sovereign debt crisis occurred.
◦ However, Germany was able to weather out the crisis better
than most of the other EU member countries.
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Figure 6.2 shows the German trade balance (X-M)
for the period 1950-2014.
◦ X =Value of exports M = Value of imports.
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According to Figure 6.2, Germany experienced a
phenomenal growth rate in its trade balance.
Germany is considered to be an export-led growth
country.
◦ This is supported by the fact that since 1952, Germany has
not generated a trade deficit for a single year.
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© 2016 George K. Zestos
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The role of trade in the growth of the German
economy is clearly portrayed in Figure 6.3, where
both the real GDP and the trade balance are
presented as indices for the period 1950-2014.
Both the trade balance and GDP trends were similar
until 2000.
After 2000, the German trade balance increased at
a much higher rate of growth in comparison to
GDP.
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© 2016 George K. Zestos
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According to some analysts, excessive German
trade surpluses became an issue of concern as they
began destabilizing the EU economy.
German trade imbalances were also suspected of
having played a role in prolonging the European
sovereign debt crisis.
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Figure 6.4 portrays the unemployment rate of
Germany for the period 1950-2013.
During the 1950-1960 subperiod, the German
unemployment rate drastically declined by
approximately 10% down to 1%, and remained low
until the early 1970s.
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© 2016 George K. Zestos
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Since the early 1970s, the German unemployment
rate increased until its peak of approximately 13%
in 1997.
During the 1990s, Germany experienced
stagnation.
This was the time during which the social market
economy model no longer worked for Germany.
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During the 1970s, Western European economies
also experienced stagnation.
The two oil crises, aging populations,
overregulation, and rigid labor markets all
contributed to the EU decline in international
competitiveness in relation to the US and Japan.
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To cope with the failing European economy, EU
country leaders at the March summit of 2000
decided to launch a major program aiming to
transform the EU into the most competitive
economy in the world.
The new program was called the Lisbon Agenda,
named after the capital of Portugal, where the
March 2000 summit was held.
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EU governments agreed to launch several programs
to promote fiscal stability and improve business
innovation and international competitiveness.
Such objectives were going to be achieved mainly
through labor market reforms.
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The Lisbon Agenda required:
◦ Reductions in pensions and wages;
◦ Reductions in worker benefits;
◦ More flexibility and freedom for businesses.
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For many years the social market economy was a
successful economic model, thus Germany
attained high economic growth and high
standards of living.
In the early 1990s, however, the German
economy revealed weaknesses. High labor costs
and other market rigidities transformed Germany
into an unattractive place for investors.
◦ As a result German companies began investing abroad.
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The reunification of East and West Germany posed
new challenges for the country.
Although East Germany, the new Länder, was the
most industrialized of the Eastern European
countries, East Germany was lagging far behind in
economic development and technology compared
to West Germany.
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The reunification resulted in a stagnation of East
Germany’s economy, as German exporting firms
that were “destroying jobs in foreign countries”
(Schmidt, 2009) now turned against East Germany.
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Political commitment was a driving force of
Chancellor Helmut Kohl’s government in its
decision to reunify East and West Germany.
◦ This decision also had the full support of Germany’s allies.
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Nonetheless, major mistakes were made in the
integration process of East and West Germany,
therefore reunification became difficult.
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Two adopted reunification policies were
detrimental to the East German economy:
1. The decision of Chancellor Kohl’s government to impose
a one-to-one parity between the two countries’
currencies.
2. The decision of the German labor unions to quickly
equalize wages within the two countries despite
substantial differences in labor productivity.
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Both policies rendered East Germany
internationally uncompetitive.
To close the gap in the level of economic
development and standard of living, Chancellor
Kohl’s government decided to assist East
Germany with massive aid amounting to $100
billion per year.
Such massive fiscal transfers were not effective at
quickly closing the gap in the levels of economic
development of East and West Germany.
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The massive fiscal transfers created two major
problems for the reunified country:
1. It became difficult for Germany to meet the
Maastricht fiscal criteria for membership of the
EMU.
2. Germany also struggled to comply with the
Stability and Growth Pact (SGP) that required fiscal
discipline after the launching of the EMU.
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As a result, Germany was one of three large
countries that violated the SGP.
Furthermore, the continuous flow of fiscal transfers
from West to East Germany altered the perception
of East Germans in the eyes of their compatriots in
the West.
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According to most West Germans, East Germans
were no longer the “innocent victims” of Soviet
totalitarianism, but rather “the lazy recipients of
their taxes.”
In some ways the perception that northern EA
people had of the southern EA people during the
Eurocrisis were very similar to those of West
German citizens regarding East Germans.
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To cope with high unemployment, the Social
Democratic Party (SPD), which was then in coalition
with the Green Party, introduced the Hartz I-IV
reforms in 2003-2005 to revamp the stagnating
German economy.
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The Hartz reforms introduced by Chancellor
Gerhard Schröder were in line with the Lisbon
Agenda.
Many of the proposed Hartz reforms became laws
in Germany.
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The Hartz reforms made it more difficult for
unnemployed workers, as many of their
unemployment benefits were cut or substantially
reduced.
New types of employment were introduced during
this time that favored businesses.
These new types of employment became known as
precarious work.
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The following are examples of precarious work:
1.
2.
3.
4.
5.
Fixed-term contracts;
Agency work;
Temporary work;
“Mini-jobs”;
“Midi-jobs.”
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The Hartz reforms helped Germany weather the
crisis better than other EU countries.
Several analysts believe there were other factors
that predated the Hartz reforms which contributed
to the fast recovery and strengthening of the
German economy during the Eurocrisis.
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Such additional factors include:
1. Decentralization of labor unions;
2. Short Work (Kurzarbeit), and Working Time
Accounts;
3. Weakening of trade unions.
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Even prior to the launching of the Hartz reforms,
labor negotiations in Germany began at the
company-specific level, instead of the national or
regional levels.
Such arrangements took labor productivity of the
specific plant into consideration when bargaining
for wages and other workers’ benefits.
These arrangements were therefore more equitable
and efficient.
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Short Work (Kurzarbeit) is a German labor program
that is employed during periods of low product
demand to reduce unemployment.
A firm has the option to apply for this program
through the German Employment Office.
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If approved, the firm can keep several part-time
workers.
However, these part-time employees get paid
wages equal to full-time workers, with the
difference being provided by the German
Employment Office.
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Working Time Accounts is a labor program that
allows firms to employ workers during highdemand periods without having to pay them
overtime wage rates or overtime hours.
Instead, companies keep a Working Time Account
for such workers. During periods of low demand
these workers are paid on a full-time basis
although they only work part-time.
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Both programs reduced unemployment in Germany,
especially during the Eurocrisis.
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The reunification of Germany had a major impact
of reducing both:
1. Trade union membership;
2. Trade union participation as a percentage of the labor
force;
◦ This is shown in Figure 6.5a.
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Both trade union membership and trade union
participation increased immediately after German
reunification.
◦ However, they both dropped substantially in the
following years.
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By 2013, trade union membership had dropped by
5.6 million workers.
Trade union participation had dropped by 17%.
Such drastic changes in the labor market weakened
the position of workers in relation to businesses.
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© 2016 George K. Zestos
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Labor reforms were pushed harder in Germany than
any neoliberal pro-business policies were pushed in
other EU countries.
This gave German firms a comparative advantage but
not an unfair advantage.
o
Other countries were free to launch such reforms,
but most did not implement them to the extent
that Germany did.
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Furthermore, international organizations such as the
OECD, IMF and the World Bank, promoted neoliberal
policies.
◦ These international organizations did not, however, promote
Short Work (Kurzarbeit) or Working Time Accounts.
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The Hartz reforms helped Germany become
efficient and internationally competitive.
Consequently they also helped generate large
positive trade balances.
After adoption of strong austerity measures for
several years, periphery EA countries were also able
to generate trade surpluses starting in 2013.
◦ As a result trade surpluses with the EU declined
substantially after 2013.
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German trade balances with the EA members
almost dissipated by 2014.
However since 2009, the year the crisis entered
Europe, Germany’s trade surpluses with non-EU
countries began substantially increasing (see
Figure 6.6 below).
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© 2016 George K. Zestos
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