From: Rakesh Bhandari (rakeshb@STANFORD.EDU)
Date: Fri Feb 20 2004 - 21:06:21 EST
Le Monde diplomatique ----------------------------------------------------- February 2004 LABOUR MARKET WRONGLY BLAMED FOR UNEMPLOYMENT Germany: capital flees Germany's generous social welfare provisions and once powerful unions didn't cause its economy to stagnate. The real problem has been money leaving the country in search of easy profits. By HEINER GANSSMANN * GERMANY has been the sick man of Europe for some time, with high unemployment and a stagnating economy. The diagnosis of German economists is unanimous: the labour market is unable to balance supply and demand because of high social welfare benefits and excessive trade union power. The Nobel economics laureate Robert Solow called this diagnosis "a naive belief that unemployment must be a defect of the labour market, as if the hole in a flat tyre must always be on the bottom, because that is where the tyre is flat". Experts in other disciplines would have slunk away with their tails between their legs after that criticism. Not our economists. They continue to insist that the cause of Germany's economic troubles is the labour market. The Deutsche Bank's economic staff point to a series of problems: the difference between gross and net wages due to high taxes and social security contributions; high real wages due to an excessively distribution- oriented wage policy; insufficient wage differentiation, between sectors and regions and between skill levels; strong legal labour protection against dismissals; strong barriers against increased labour time flexibility; incentives to work blunted by high wage replacement rates of unemployment and by welfare benefits. All of these are said to have the same root cause: an overdeveloped welfare system. In this view, the German economy is suffering not from unemployment but from a cost-induced drop in labour output caused by over-generous welfare benefits. This diagnosis culminates in the breathtaking claim that the suppliers of labour as a factor of production have been the big winners in recent decades. Considering how the economy and wages have actually evolved since Germany's reunification, the "winners" are not the only people surprised by this diagnosis. The nine new eastern Länder make up 30% of German territory and have 20% of the population. In 1992 they contributed less than 8% to Germany's total economic output. Economic activity in the East fell dramatically after reunification and the number of people in employment dropped rapidly from almost 10 million to around 6 million. Yet despite de-industrialisation, the growth rates of the early 1990s were fairly impressive. They were sustained above all by the expansion of the building sector, which was fuelled by subsidies, tax incentives and public investment in infrastructure. Since 1997 the gap has widened again. Unemployment is twice as high in the East, and productivity is much lower than expected, even in ultra-modern factories. Reunification not only failed to produce an economic take-off in the East; it hampered growth in the West. The main burden fell on West Germany's social welfare programme, whose benefits were extended to the East. Social welfare accounts for over 50% of gross public transfers to the nine new Länder. Net transfers for the whole of the 1990s amounted to 4.5% of the West German gross domestic product. Overall social welfare expenditure rose from 22.2% of GDP in 1990 to 32.2% in 1995 and has remained at that level. Astonishingly the huge increase in social welfare expenditure was not financed by additional general taxation, but by higher social insurance contributions and a rapid rise in state indebtedness. As long as East German economic distress was seen as a temporary phenomenon, the Bundesbank tolerated the growing public debt - especially as there was a major influx of investment to the new Länder. But with the recession in 1993 investment dropped throughout Germany and failed to return to its previous level. All hopes that high transfers of charges to the East would soon be unnecessary had to be abandoned. Between 1991-2001 the growth rate for the German economy as a whole was 1.5%, lower than all the rich OECD countries except Switzerland and Japan. Since growth was insufficient to create more jobs, unemployment continued to weigh heavily on the social welfare budget, rising from 7.7% in 1993 to 9.7% in 1997. By 2000 unemployment had gradually fallen to 7.8% but is now rising again. Unemployment depresses wages, as the textbooks tell us. But only if real net wages are considered. Between 1991-2002 average real net annual wages fell by 2.6%, while real GDP grew by 15% and labour productivity by almost 21%. Over the same period income tax and social security contributions rose by 56.4%, constantly widening the gap between gross and net earnings. The stagnation in real earnings was compensated to some extent by an increase in free time. The average number of hours worked per year fell by 6.3% between 1991-2002. Since net real earnings fell by a smaller percentage, the average wage earner can be said to have benefited from economic growth and higher productivity in the form of a little more free time. Nevertheless, in a situation of weak economic growth and high unemployment, wage earners were scarcely able to defend their real net earnings. By shifting the burden of reunification on to wages, the state created a widening gap that made labour more expensive, despite the stagnation of real wages. The much-maligned trade unions have at most succeeded in maintaining the level of real net wages over a long period of significant, though weak, economic growth. The standard claim that high wages are responsible for unemployment may be true of the East, where wages are too high in relation to productivity, but it is certainly not true of Germany as a whole. When it comes to international competitiveness, relative unit labour costs are the decisive factor. The cost of labour depends both on exchange rates and on productivity. Comparative studies show that unit labour costs, calculated in DM, have weighed more heavily on German industry than on its main competitors, but have clearly lagged behind when calculated in dollars. From a starting value of 100 in 1992, they had fallen by 2001 to 94.1 in the United States, 89.3 in Japan, 62.6 in France, 78.7 in Germany and 95.3 in the United Kingdom. Clearly, the German economy is suffering far less from a labour cost problem than from an exchange rate problem. The claim that Germany's economic woes are caused by high wages is contradicted by the fact that the main burden of low growth has been borne by wage earners, either in the form of unemployment or in higher contributions. The standard diagnosis that unemployment is caused by high wages, which are themselves the result of an inflexible labour market - the welfare state and the unions - is based not on empirical analysis but on the dogma of vested interests. So if Solow is right, and the hole in the tyre is not at the bottom, where is it? Unemployment can have other causes than inflation and a rigid, socially and legally structured, labour market. It can result from under-investment. If capital reserves do not grow sufficiently while production is being rationalised, the demand for labour falls. And in Germany investment has been falling since the late 1970s. The share of net investment - capital investment minus depreciation - in national income has dropped from over 22% to a recent and catastrophic 3.5%. It is always possible to argue that when rising wages depress profits, investment falls. But, if so, the reverse should be true: a wage freeze should produce greater profits and higher investment. In Germany, however, the opposite has happened: profits have grown and investment fallen. In the great wave of speculation of the late 1990s the volume of German direct foreign investment rose from ?302bn at the end of 1998 to ?628bn by the end of 2001, compared with a total of ?372bn for total net domestic investment over the same period. At the same time German speculation in foreign shares increased rapidly up to the 2001 crash. Clearly, much of the profits that German companies and affluent individuals had made in Germany were invested abroad. Here, too, there is a standard explanation. The Deutsche Bank staff have argued that "when the return on the factor capital diminishes, not so much additional capital will tend to be provided. If, at the same time, opportunities for investment are more attractive abroad, capital will be employed there instead." So there was no shortage of investment capital. The decision not to invest in Germany was simply the result of more attractive investment opportunities offered abroad. German capital was sucked into a maelstrom of high US profits, speculation and greed; the salaries of top managers shot through the roof. Daimler's merger with Chrysler resulted in a 466% pay increase for Daimler board members. Who could resist such temptation? The flow of capital to the US came to an end when the bubble burst in 2001. But domestic investment did not pick up again, in fact the opposite happened. So the question is: has German capital abandoned German capitalism? The flight of capital ought in fact to lead to profitable domestic investment opportunities, since it puts both wage earners and politicians under pressure. In a context of high unemployment, someone whose job is at risk will be inclined to put up with the restructuring of his working conditions and the redistribution of wealth in the direction of greater profit. Politicians will tend to accommodate to neo-liberal policies. Agenda 2010 is a case in point, with Chancellor Schröder taking major steps to increase profits by lowering taxation, increasing deregulation and depressing labour costs. Do dominant German business circles really believe they will be able to maintain the benefits of Germany's coordinated market economy while rampaging after profits on the US model? If the complementary institutions of Rhine capitalism are destroyed by withholding investment and taxes, German entrepreneurs may wake up in a world in which they have the worst, not the best, of the two variants of capitalism: they will have a shrunken public sector providing poor services and a deregulated economy with little competition, a badly educated and badly trained workforce and employees who grudgingly let themselves be bullied by greedy authoritarian managers. The continuity of financial policy from the former finance minister, Theo Waigel, to the present incumbent, Hans Eichel, offers little hope of a change of direction. Germany is once again the world's champion exporter, but its economic success abroad is having little impact on the domestic market and foreign investment is highly unlikely to fill the breach. Either private investment must be attracted back to Germany by a series of concessions, or a social democratic variant on Scandinavian lines, based on a demand policy driven by greater public investment and more jobs in the public sector, will have to be tried. But in the present political climate the idea seems utopian. * Heiner Ganssmann is professor of sociology at the Free University of Berlin Translated by Barry Smerin ALL RIGHTS RESERVED © 1997-2004 Le Monde diplomatique
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