Dessau, a small and steadily shrinking town in the German state of Saxony-Anhalt in what used to be East Germany, is doing the best it can. Ten years after the fall of the Berlin Wall the anticipated “miracle” enjoyed by West Germany following World War II failed to materialize for Dessau and so it is in the process of demolishing some 10,000 empty homes and turning the lots into parks.
In disjointed English, Karl Groger, Dessau’s building director, pointed to the demolition and said, “From here you see that the city is embedded in a protected nature area. Someday all of this will be wilderness.” Known for its Bauhaus school of design that operated before the war, Dessau officials are hopeful that the new Bauhaus Institute, run by director Omar Akbar, will be able to make the shift from growth to shrinkage. Akbar told Russell Shorto, an investigative journalist with The New York Times, that “Shrinkage is a completely new phenomenon. We have to look for new ways to deal with it.”
The nearby town of Eisleben is also rapidly shrinking but has a different solution: turning the town into a religious tourist center for those interested in seeing Martin Luther’s birthplace as well as the church where he preached his last sermon in 1546. As Shorto explained,
The city is laying out a tourist route – from the house in which Luther was born to his first church to the church in which he gave the last sermon before he died – that shows off its old center and turns its many derelict buildings and empty lots into art installations related to the father of Protestantism.
This flies in the face of the standard political and economic theme that Germany is on the cusp of another “economic miracle” and that consequently it can serve as a model for those other countries who want to grow, thrive and prosper while providing plentiful social services for its citizens. No one more clearly presents that theme than Rainer Rudolph, the head of the Economic and Commercial Section of the German Embassy in Washington, DC. In an abstract of his presentation on the new German Model to students at the University of New Mexico in March Rudolph explained:
The German economic model as developed since World War II has not only provided unparalleled prosperity and security for German and European Union citizens. It has also done so while incorporating elements of traditional humanistic and ethical protections for the less fortunate members of society. It melds the rights and duties of entrepreneurs and workers by means of a social partnership with strong unions.
Germany has managed the political wonder of re-unification and strong economic development in the era of globalization due to its innovative and competitive export industries, highly skilled workforce, very low youth unemployment and sound public finances, making it a major force for stabilizing the Euro.
Something is amiss here. If the new German “model” as outlined by Rudolph works so well, why are towns like Dessau, Eisleben and many others in Saxony-Anhalt shrinking? Why is Germany’s population shrinking by 200,000 every year? Why has the country’s fertility rate dropped below the level necessary to sustain its population? Why has that rate stayed so low for so long? Why has there been such a huge increase in the number of children living in poverty, from one in 75 in 1965 (the middle of the German economic miracle) to one in 6 in 2007? How can a country whose tax burden is so great that it absorbs nearly 52% of the country’s economic output be considered “prosperous?” Why is Germany’s economic outlook so poor? The German central bank, the Bundesbank, just reduced its forecast for 2013 another tenth of a percentage point to 0.3% and the latest purchasing managers’ report is showing a dramatic slowdown in new orders. What about the vaunted industrial magic behind Audi, Mercedes-Benz and BMW? Reports on April 17th showed a decline in auto sales of a breathtaking 17%.
What is this German economic model that Rudolph is touting as the answer for other struggling economies?
The first great German economic miracle can be clearly traced back to a day in June of 1948 when Germany’s economic director, Ludwig Erhard, eliminated most of the price controls that had hampered the economy during and after the Nazi regime. That relaxation, along with the replacement of the old worthless paper currency with a new one, spurred the German economy to a startling recovery. As Robert Cheek noted in his 2007 study of the German economy, “What is Ailing the German Economy?”,
The German economic miracle was characterized by skyrocketing increases in industrial productivity along with historically low unemployment rates.
Between 1950 and 1960 industrial production in West Germany had risen to two-and-a-half times the level of 1950, GDP (gross domestic product) grew by two-thirds, and the unemployment rate fell from 10.3% to an astonishing 1.2%.
Prior to that date the German economy remained hamstrung with the old Nazi price controls that helped build the Nazi war machine while impoverishing its citizens. Workplace absenteeism approached 40% as a result of citizens leaving their jobs to work in their gardens to grow produce to feed their families, or else riding in ramshackle wagons into the countryside with whatever remaining personal possessions they had in order to barter them with farmers for fruits and vegetables.
Once Erhard’s decree was issued, goods miraculously reappeared in store windows, workplace absenteeism dropped enormously and the economy rebounded so strongly that the Germans called it “Wirtschaftswunder” or “economic miracle.” Erhard’s plan was called the “social market economy” by Erhard’s associate, Alfred Muller-Armack, and was designed to be a balance between laissez-faire capitalism which was mistakenly perceived to the cause of the Great Depression in the United States in the early 1930s, and the disastrous National Socialist command economy enforced during the Nazi regime. This social market economy was to be a “third way” that would restore the economy while keeping in place the social safety nets for people in need.
For a while the so-called miracle persisted despite its shortcomings, partly because the German citizenry needed it to work. As Cheek explained:
Beyond its immediate success, the Social Market Economic System gained both popularity and recognition from the population at large in Germany. The degree of importance this system holds in the minds of the German people is best understood in light of the circumstances under which this system emerged.
At the end of Nazi rule in Germany, recognizing the scale and gravity of the atrocities committed under it, the German people could not deny that as a group they had made a terrible mistake.
In effect, this largely destroyed any sense of national pride upon which Germans could base their national identity. All chances had been lost to formulate a positive identification with “Germanness” and Germany’s recent history.
The temporary release of pressure on the economy, and the return of nationalist pride, served well to grow the economy out of its postwar poverty:
In the wake of the post-war destruction and hardship, it was the return of prosperity under the economic miracle which would fill this void in the mindset of the German people. The renewed economic vitality which emerged under the institution of the German Social Market Economy allowed Germans to take pride in their collective industry and economic strength. The success of the German economy under the Social Market System came to form the founding myth upon which Germans based their collective national identity.
It didn’t take long, however, for Germany’s new found economic stature to invite statists and internationalists to saddle the economy with more regulations and restrictions. The first step backwards occurred in 1957 with the establishment of Germany’s central bank, the Deutsche Bundesbank. The bank almost immediately began to interfere in the economy under misguided Keynesian policies which allowed the government to spend money it didn’t have without the necessity of raising taxes. In 1963, at Erhard’s urging, the Council of Economic Experts was established which cemented into place the concept of the regulated economy, thus shutting down the economic impetus enjoyed prior to that time.
So abrupt was the ending of the “economic miracle” that began in 1948 that a study published by the Centre for Economic Policy Research (CEPR) in June 2008 referred to the period from 1950 to 1973 as the Golden Age, while it called the following period of stagnation from 1973 and thereafter as the Growth Slowdown. So dramatic was the slowdown induced by the reinstitution of regulations and expensive public welfare programs that during the Golden Age Germany’s growth on a per capita basis was more than 5% a year for nearly a quarter of a century, but for the next 25 years that growth was barely positive, averaging just over 1% a year.
What that meant was that the average German saw his standard of living quadruple during the Golden Age, but remain essentially stagnant for the next 25 years.
When Erhard (who had succeeded German Chancellor Konrad Adenauer in 1963) was voted out of office in 1966, he was replaced by a coalition of socialist planners including one Karl Schiller who during the war was a member of Hitler’s Stormtroopers and who then after the war joined the socialist Social Democratic Party (SDP). Schiller brought with him the baggage of totalitarianism and economic planning which, when implemented, removed any last vestige of the German miracle from memory.
Under Schiller social welfare programs exploded and when the size of the newly promised benefits became evident during an economic slowdown in 1972, Schiller was forced out of office. But the damage had been done. During the decade of the 1980s the economy barely grew at all while unemployment continued to climb.
Taxes were reduced slightly in the mid-80s which led to a brief spurt of growth in 1988 and 1989 just in time for the fall of the Berlin Wall in October 1990. Expectations were that the “miracle” which remained mostly in peoples’ minds if not in real economic terms would bring East Germany into the 21st century economically and politically.
West Germany poured $2 trillion into East Germany in a failed attempt to revitalize an economy that had suffered for decades under a communist dictatorship. West Germany continued to pour annual amounts of between $40 and $60 billion into East Germany but without noticeable or measurable success. Unemployment remained over 7% due primarily to Germany’s equivalent of the minimum wage which guaranteed significant unemployment even for those looking for work.
As Cheek explained:
However, the problems of stagnant GOP growth and rising unemployment, which had surfaced in [West Germany] in the 1980s, were only intensified following German unification.
Since reunification in 1990, Germany has seen annual average real growth of only 1.8% and unemployment rates have averaged 7.5% over the same period.
Before unification, West Germany had maintained a great degree of social stability by alleviating social friction through the redistribution of wealth. The resulting welfare state with its generous unemployment benefits, universal health care, comprehensive social security, and indexed pensions was in turn dependent on a certain level of economic growth to finance existing programs. The expansion of social programs and entitlements to East Germany added pressure to the already strained social budgets while straining relations between East and West Germans.
West Germans had to pay more into the social budgets during a time when benefits were being rolled back. And in the new federal states, the application of West German social legislation contrasted unfavorably with the much more comprehensive welfare system that had previously existed in the [communist East].
By 2003 it was clear that something had to be done to revive the moribund German economy. The Golden Age “miracle” following the war was ancient history, having been replaced by the demands of the welfare state and regulations that kept the economy from performing as it did in the 1950s and 1960s. On March 14th, Chancellor Gerhard Schroder presented his outline for “Agenda 2010” which some have compared to Reaganomics or Thatcherism, a trimming back by a little of some of the onerous tax burden through slight reductions in tax rates along with some cuts to the welfare state benefits. Over noisy complaints by unions, large parts of Agenda 2010 were implemented and became effective in January, 2005. Almost immediately the economy began to rebound, being allowed to enjoy a little of the oxygen of which it had been deprived for years. In May 2007 unemployment hit a five-year low and by 2011 had fallen further to under 7%.
Unfortunately that spurt in the economy didn’t last and Germany’s economic engine has continued to languish. Since hitting a peak in the summer of 2010 economic output has steadily declined and has just dropped into negative territory.
A snapshot of the German economy provided by the CIA’s World Factbook updated in April reveals an economy suffering not only from excessive regulations and a firmly implanted welfare state, but also from demographics and declining fertility rates. At the moment, a third of Germany’s population is age 55 or older whose pension and other welfare state benefits are being paid for by those between age 15 and age 55. That cohort, currently at 53%, is shrinking while the other is growing. It’s just a matter of time and mathematical certainty that taxes will have to rise or benefits will have to be cut in order to keep deficits in bounds. The Bundesbank does not have the luxury of being able to print its way out of this mess, and the government has made promises to the European Union to keep its annual deficits under control.
How taxes could be raised further is problematic. A single person in Germany sees 49.8% of her income taxed away (compared to 29.6% in the US), while a 2-earner family with 2 children lose 42.5% of their incomes to taxes (compared to 24.8% in the US).
The other issue is the country’s vast shrinking population numbers. At the moment, Germany’s population is just over 81 million, but according to Germany’s own federal statistics office by the year 2060 it will have fewer than 70 million and perhaps as few as 65 million.
In order to maintain its current population levels a country’s fertility rate must be at 2.1 births per women during her childbirth years. In 1948, the year when Erhard eliminated price controls and allowed the German economy to begin to breathe again, the fertility rate was 3.06 and it stayed well over 2.1 until 1971 which coincided with the year Schiller was removed from office due to the failure of his statist plans to stimulate the economy. It has continued to drop, staying below the replacement rate of 2.1, and hitting a low of 0.77 in 1994. With the modest recovery in the economy thanks to a slight lessening of the pressure of the welfare state in the late 1990s, the rate rose a little, to 1.2, but was still well below the replacement rate. When Agenda 2010 was introduced in 2003 the rate was 1.26 and the year it was implemented, in 2005, the rate was 1.3. As the economy moved higher thanks to Agenda 2010 so did the rate, which hit a peak of 1.46 in 2010. In 2011 it dropped to 1.43 and in 2012 slid further to 1.42.
According to the World Factbook,
Reforms launched by the government of Chancellor Gerhard Schroder (1998-2005), deemed necessary to address chronically high unemployment and low average growth, contributed to strong growth in 2006 and 2007 and falling unemployment. These advances, as well as a government subsidized, reduced working hour scheme, help explain the relatively modest increase in unemployment during the 2008-09 recession – the deepest since World War II – and its decrease to 6.5% in 2012.
GDP contracted 5.1% in 2009 but grew by 4.2% in 2010, and 3.0% in 2011, before dipping to 0.7% in 2012 – a reflection of low investment spending due to crisis-induced uncertainty and the decreased demand for German exports from recession-stricken periphery countries.
What the World Factbook leaves out is any mention of how low fertility rates are going to impact any possible future economic recovery. Others have suggested that the secularism that inundates Luther’s Germany has something to do with it. With more and more children winding up in poverty, who would want to bring children into the world if they can’t be supported? At present, Protestants and Catholics each make up 34% of the German population, while unaffiliated make up the balance. In simple terms, three out of ten Germans have no religious affiliation. Even in Luther’s birthplace, Eisleben, less than 14 percent attend church.
Feminism has been considered a reason for low birth rates as well, while the high costs of the welfare state also seem to some to have merit in explaining the decline in the fertility rate. Simple math must count for something as a couple is deciding whether or not to start a family. With taxes absorbing between 40 and 50 percent of workers’ incomes, the math no doubt mitigates against incurring the costs of birthing and raising a child or two or three.
The massive overhead of debt which now exceeds 80% of Germany’s GDP doesn’t even count the potential losses Germany could suffer as it has extended loans to bail out Eurozone countries in even worse shape than itself. No single example serves better to illustrate the point than does the recent German bailout of Greece.
Germany revels in the misperception that its finances are strong enough to be the lender of last resort and when such assistance is granted, it comes with a heavy dose of hypocrisy. As Bloomberg noted,
Let’s begin with the observation that irresponsible borrowers can’t exist without irresponsible lenders…
German banks built up precarious exposures to Europe’s peripheral countries in the years before the crisis. By December 2009, according to the Bank for International Settlements, German banks had amassed claims of $704 billion on Greece, Ireland, Italy, Portugal and Spain, much more than the German banks’ aggregate capital. In other words, they lent more than they could afford.
Germany’s banks were Greece’s enablers.
Gunner Beck, a lawyer and scholar in Great Britain, wrote “The Myth of Germany’s Gain” in which he said it is likely that Germany will suffer losses on those loans in amounts approaching a trillion dollars. When those losses are finally booked, Beck thinks Germany’s debt to GDP ratio will exceed 110%.
According to a study completed in January 2010 by economics professors Carmen Reinhart of the University of Maryland and Kenneth Rogoff of Harvard University, when a country’s debt to GDP ratio exceeds 90%, its growth slows considerably, making it impossible for that country’s economy to grow itself out of the debt burden:
Our main finding is that across both advanced countries and emerging markets, high debt/GDP levels (90 percent and above) are associated with notably lower growth outcomes.
Seldom do countries simply “grow” their way out of deep debt burdens.
The potential implications for Germany are clear. If its debt-to-GDP ratio breaches the 90% level, growth slows even further. This alarms investors holding German sovereign debt who then begin to demand risk premiums in the form of higher interest rates, putting additional pressure on an already overburdened economy. Without saying as much, professors Reinhart and Rogoff are describing the death spiral as the economy slows further, resulting eventually in massive defaults both of its outstanding debts and its internal welfare state promises.
Moody’s Analytics has an equally dismal outlook for Germany, noting that in the last quarter of 2012 its economy contracted 0.6% and that “high-frequency indicators suggest that investment contracted before the end of 2012” and that “low consumer confidence points to consumption slowing down as well.” The situation in Germany is precarious, according to Moody’s:
The flash German PMI [Purchasing Managers Index] manufacturing gauge fell to 48.9 in March from 50.3 previously. The value below 50 indicates output contraction in the near future.
The economic outlook remains highly uncertain because of the recession in the euro zone caused by the debt crisis.
Germany can’t count on its export-driven economy to pull itself out of the coming decline, either, as most of its trading partners are suffering economic slowdowns as well. As Moody’s noted, “Slowing exports will drag … in the coming months, as some of its key trading partners are already in recession. In addition the still-elevated euro will hurt further German exports.” In addition, the Bundesbank just lowered its forecast of economic growth for 2013 to a scant 0.3 percent, down from a predicted 0.8% growth made just last November.
All of this, then, puts Rudolph’s excessive exuberance about how well the German “model” is working and how it will work to pull other slowing economies back to health into proper perspective. The German economy most definitely is not providing “unparalleled prosperity and security for German and European Union citizens”, it has not successfully “managed the political wonder of re-unification and strong economic development” while incorporating “sound public finances.” On the contrary, any country wishing to adopt such a model will likely soon begin to enjoy the same results: an economic slowdown, a demographic challenge of heroic proportions, a welfare state that will shortly become unsupportable, a likely decline in its fertility rate and the resulting implosion of its population. In short, if Rudolph’s model is adopted, it won’t take but a generation or two before Mark Steyn’s prediction comes true, that Germany and most of its neighbors will “devolve into quaint locales for vacationers, romantic poets and history buffs.”