Leverhulme Centre for Research on Globalisation and Economic Policy; Newsletter: Issue 16 Winter 2006
GEP hosts The World Economy Annual Lecture. This is an event intended to provide an analysis of current issues in international economics by a distinguished speaker. This year GEP invited Professor Hans-Werner Sinn. In this article Hans-Werner offers a brief summary of his talk. Hans -Werner is President of the Ifo Institute for Economic Research and Professor at the University of Munich.
Germany is the world’s industrial bazaar. No other country can offer its international clients such a broad variety of industrial products. Germany has 450 hidden world champions for niche products, and is home to 15 of the 20 biggest trade fairs in the world. It is also the world’s top exporter of merchandise and the secondlargest exporter of goods and services. But Germany is gradually becoming a bazaar economy in a different sense, because nowadays it specializes in activities that are close to customers, while outsourcing an ever-larger share of its high value-added manufacturing to lowwage countries. In other words, Germany’s role in the world economy is gradually shifting from being a producer to a merchant.
As a result, its exports contain an ever-increasing share of imported goods and services, while domestic value-added per unit of export is declining rapidly. The automobile and electrical engineering industries have been at the forefront of the bazaar economy. To remain price competitive, they have had to rely on imported components. The manufacture of electrical products, such as chips and passive devices, has quite often been shifted completely to Asia, while even automobiles that are still assembled in Germany rely heavily on components produced in Eastern Europe. The decline in the value added per unit of exports does not mean that value-added in exports itself is falling. It only means that export volumes and value-added have decoupled, with German export volumes rising by 1.3% for each 1% of additional value-added in exports. Thus, while the average share of import content in German export is 38%, these imports already account for 53 cents of each additional euro of real exports. Many believe that specialization in bazaar activities should result in a reduction of value-added in exports.
But it is in the very nature of international specialization that value-added in exports rises faster than GDP, and specialization in bazaar activities is no exception. The bazaar effect does not imply that value-added in exports falls, only that export quantities rise faster than the value added contained in these exports. Is this good or bad? The increase in export-induced value-added that occurs despite the bazaar effect is, in itself, irrelevant for a judgment, because each and every specialization is accompanied by a reduction in valueadded in other sectors, owing to underlying movements of capital and labour. There is such a thing as excessive specialization.
An assessment of whether excessive specialization has occurred in Germany must focus instead on the labour market, for it is here where the specialization process is organized. Unfortunately, there is no reason to be optimistic. From 1995 to 2004, a total of 1.09 million fulltime equivalent jobs were lost in manufacturing. At the same time, no new jobs were created in the rest of the economy. On the contrary, employment outside manufacturing declined, so that the economy as a whole suffered a net loss of 1.26 million full-time equivalent jobs. In fact, since the fall of communism, the percentage decline in German industrial employment has been larger than in any other OECD country. In part, this was due to the decline in the former East Germany. But even western Germany holds the second-lowest rank of all developed countries.
At bottom, the coincidence of unemployment and booming exports can be explained by the high and rigid wages from which Germany still suffers, and these in turn result from aggressive union policies and, in particular, the replacement incomes of the welfare state that act as minimum wage constraints for the market economy. Germany has had the highest hourly labour costs in the world for most of the last twenty years; only recently has Denmark taken the lead due to a revaluation of the krona. Excessive wages destroy the labour-intensive upstream product stages too fast and also impairs other labour-intensive sectors like textiles, simple services, tourism, and construction. As a result, these labour-intensive sectors must release a lot of labour and capital, which push into the capitalintensive export sectors that are better able to cope with high wages. But, while these sectors therefore grow especially fast, their high capital intensity means that they cannot fully employ the released labour, with the result that some of the unemployed workers have nowhere to turn but the welfare state.
At the same time, since returns to capital are kept low by high wages, very little investment occurs. The excess of savings over investment flows abroad as capital exports. Net investment abroad (including financial investment) has already surpassed domestic investment in recent years. Economic growth and job creation slow, while exports soar. Astonishingly, many interpret Germany’s export boom and current-account surplus, which measures these capital exports, as an indicator of the strength of Germany as an investment location.
As the international division of labor proceeds further, the import content of German products will continue to increase, which means that rising exports will go hand in hand with fewer domestic jobs and less income growth. Unless and until German workers accept the need for greater flexibility in the face of global competition, export profits will continue to be invested abroad, reducing overall production costs – and reinforcing the bazaar economy at home without creating additional jobs.