WASHINGTON, Sept. 3 (UPI) -- With the Germany's IFO Business Activity Index close to its all time low, with the country's tax cut due next year now postponed, and with the lowest economic growth rate in the EU, it is fair to ask of Germany: where did the wirtschaftswunder (economic miracle) go, and what can be done to bring it back?
One is so used to thinking of Germany as an economic powerhouse that the idea of the country as the sick man of Europe seems strange, even unrealistic. After all, Germany's superior economic performance did not simply originate with the Konrad Adenauer government of 1949-63; the country was already gaining competitive strength at remarkable speed under the leadership of Otto von Bismarck (1862-90.)
Bismarck, the Prussian, and Adenauer, the Rhinelander, had little in common, and neither would have approved of the other, but they both shared one characteristic: they were deeply, almost fanatically opposed to populism, in politics or economics.
Bismarck founded German old age pensions, at a very low level by modern standards, but remained firmly committed against allowing the German Parliament much say in how the country was run. His government was authoritarian to a fault, but utterly secure against adventurism caused by popular agitation -- it was only after he retired in 1890 that popular German hatred of France and jealousy of Britain was allowed to poison the country's diplomacy.
Adenauer's anti-populism was in many ways even stronger. He turned down the Chancellorship twice during the Weimar Republic years because he "did not want a temporary job." He vehemently opposed the social democrat nostrums applied in every other country during the 1940's and 1950's, because he believed them to be economically damaging to the still fragile German economic recovery. Most important, from an economic point of view, he kept a tight lid on government spending during his tenure in power, so that German public spending in 1963, the year he retired, was only 34.17 percent of Gross Domestic Product, compared with 37.5 percent in France and 38 percent in Britain -- this during a period when Germany's public sector needs, for economic reconstruction, invalid pensions, and homeland defense against the Soviet forces at her borders, were extremely high.
Once Adenauer retired, public spending began to rise, in spite of the fact that nominally conservative Chancellors were in charge for several years. By 1975, German public spending had risen to 47.05 percent of GDP. Given the deflationary effect of rises in public spending on economic growth, it is thus unsurprising that German growth ceased to be exceptional in the middle 1960's and fell back at best to the middle of the European pack.
Nevertheless, it is not fair to blame German's economic sclerosis in the last decades on public spending alone. Having peaked in 1975, and slightly exceeded that peak at 47.58 percent of GDP in 1982, German public spending has somewhat declined in the last two decades, in spite of the huge costs of the country's post 1990 reunification. In 2001, public spending was approximately 44.7 percent of GDP, significantly below the 1982 figure. While the high overall level of public spending may have had a depressant effect on economic growth, therefore, there has been no continuing increase that would have depressed it further.
The most significant political change in Germany after Adenauer's retirement was a shift from discipline to populism. Adenauer had set up the Bundesbank with a structure that would prevent, he hoped for ever, the kind of inflationary laxity that had caused the hyperinflation of 1923. Helmut Kohl, running for reelection as Chancellor in 1990, fixed the value of the East German Ostmark at 1:1 against the deutschemark, thus putting cash in East German consumers' pockets, at the cost of condemning a generation of East German workers to a decade of unemployment.
By the 1990's, it was clear that German levels of both taxation and welfare were uncompetitive, when compared with the country's trading partners worldwide, or even those within the sclerotic European Union. German fertility rates, both in the west and east, were far below replacement levels; consequently, the generous German pension system will face an actuarial crisis, beginning about 2010, as payments to the relatively youthful and long lived German pensioners swamp the already extremely high contributions from the dwindling employed workforce. German taxes on income, both corporate and individual, are well above levels prevailing elsewhere in Europe. This is particularly the case when, in the case of individuals social security taxes, and in the case of business the local trade taxes on income and capital are included. It was thus little surprise that, during the 1990's German growth remained slow and unemployment remained high.
In former East Germany, productivity remains well below the levels at which East German wage levels make sense, while unemployment benefits, equalized with the west, provide workers with the chance of idleness at a lifestyle not very inferior to that they knew under communism. The consequence was a surge in support for the Social Democrats and, in former East Germany, for the communists, who could be expected to maintain welfare payments at their exalted level.
Chancellor Gerhard Schroder, although a Social Democrat is, unlike his predecessor Helmut Kohl, not excessively populist. Consequently he has attempted to face the disincentives caused by the German tax system, and has introduced tax reforms designed to reduce German taxation towards the EU average. Of course, the largest reductions are at the top income levels, on which tax was to be reduced from 48.5 percent to 47 percent on 1st January 2003.
Schroder has been behind in opinion polls throughout 2002, for which he can be considered unlucky, as he has been a relatively reforming Chancellor. However, the world economic downturn has come at an inopportune time for his chances of re-election on September 22.
Now weather has intervened, and has improved Schroeder's chances, at the cost of hopes for economic reform and German economic recovery. To pay for flood relief efforts, Schroder has promised to postpone the tax cut due next January. Naturally, since most voters don't pay the top rate of tax, he has been rewarded by a substantial bounce in the opinion polls. It is an appalling piece of policy -- sacrificing Germany's essential long term needs for the sake of short term electoral gain, but it falls squarely in the populist tradition of former Chancellor Kohl -- or indeed, in that of Tony Blair or Bill Clinton.
The principal beneficiary of Schroder's misfortunes had appeared to be Edmund Stoiber, the leader of the minority Bavarian CSU conservative party. Stoiber's Bavarian predecessor, Franz Josef Strauss, was a man of strong, noisily expressed political views, and a devoted follower of Adenauer. There is little doubt that if elected in today's circumstances he would employ Adenauer-like policies of stern reductions in public spending, and opposition to populism, which would go far towards solving Germany's twin problems of excessive tax rates and demographic peril, just as Adenauer's policies provided solutions to the problems of postwar reconstruction.
However, Stoiber is not Strauss; even though Bavaria has achieved huge economic success by policies generally well to the right of those pursued nationally, he is both moderate and cautious, an instinctive consensus builder, without any apparent strong political or economic principles. Consequently, even if elected, it is likely that he will temporize, compromise with the trades unions and the forces of big government, both in Germany and Brussels, and provide limited if any leadership in the direction of economic reform.
He will have good excuses; the world economic recession is not going away any time soon, and with the euro likely to be strong against the dollar, and European monetary policy fairly restrictive, German economic performance is likely to continue lagging its neighbors, bringing high unemployment and labor unrest. In such an environment, a radical would seek to shake up the system, in order to return to economic growth and eventual prosperity. Stoiber appears to be no radical; he is thus likely to choose the path that compromises electoral promises, palliates problems, and perpetuates decline.
Whichever candidate wins on Sept. 22, Germany's economic future over the next few years will be quietly miserable. Bismarck and Adenauer showed that the German people were potentially the most industrious, disciplined, productive and innovative in Europe, in some sectors in the world as a whole. Whether under Schroder or Stoiber, they seem likely to have few opportunities to demonstrate their capabilities anew.
(The Bear's Lair is a weekly column which is intended to appear each Monday, an appropriately gloomy day of the week. Its rationale is that, in the long '90's boom, the proportion of "sell" recommendations put out by Wall Street houses declined from 9 percent of all research reports to 1 percent, and has only modestly rebounded since. Accordingly, investors have an excess of positive information and very little negative information. The column thus takes the ursine view of life and the market, in the hope that it may be usefully different from what investors see elsewhere.)
