A misdiagnosis of Germany’s malaise

Press echo, Financial Times, 23 Jul 2007, no 36441, p. 6

Ralph Atkins finds that things did not turn out as predicted in a gloomy critique of Berlin’s economic policy that fizzes with ideas but is now showing its age

Germany is no longer the "sick man of Europe". It is enjoying the fastest growth in six years; its stock market has hit record highs. Increasingly self-confident politicians dismiss the threat to exports of a strengthening euro and look patronisingly at France as its exporters struggle by comparison. It would seem precisely the wrong time to launch a book asking: Can Germany be Saved?

When first published in German in 2003, Hans-Werner Sinn's critique captured brilliantly the country's mood of terminal decline. The president of the Munich-based Ifo economic institute is a celebrity economist accorded particular respect on television chat shows. Back then his thesis - that Germany, with its encrusted, expensive, Bismarckian welfare system had become merely a "bazaar" economy that imported parts, completed the final stages of manufacturing and shipped finished goods back abroad again - explained neatly the country's malaise.

The whittling away of Germany's domestic economy meant high unemployment, fears about low-cost competition from eastern Europe and torpor on German high streets.

But things did not turn out as he might have expected and the English-language version's timing could hardly be worse. Now Europe's policymakers generally see Germany - growing at almost 3 per cent a year - as a textbook example of how to restore lost competitiveness by slashing labour costs.

So is this updated English version a last desperate throw by one of Germany's great "gloomsters"? Perhaps, but that does not make it irrelevant. Germany's perceived rebound is largely relative - it was in the doldrums for so long even modest growth seems remarkable. As Sinn rightly points out, it also owes much to the rapid expansion of emerging economies keen to buy German engineering.

Sinn fizzes with ideas and indignation, in the process identifying challenges still facing Germany. Foremost is reform of a welfare system that would still be recognisable to Otto von Bismarck, the 19th century chancellor. Sinn's most impressive chart is perhaps his "north face of the Eiger" graph - showing just how steeply gross incomes have to rise before net takehome pay justifies working harder. In other words, employers have to pay excessively high wages even for lower-skilled workers because of the disincentives created by generous social security benefits. Similarly, Sinn argues that a pay-as-you-go pension system - in which pensions of future retirees will be paid by workers of the future - is expensive and encourages a dependency culture. "It is simply unquestionably accepted that pensions come from the government, just as electricity comes out of the wall socket."

He is on shakier ground arguing that faith in the state pension system helps explain Germany's low birth rate - there is no need to have children. Germans are dwindling faster than any other people in the developed world and an increasingly elderly population is creating shortages of workers. But other countries with higher birth rates also have similar pension systems.

More importantly Sinn understates Germany's resourcefulness and capacity to change. There is little here on the strength of its high-technology companies. He overlooks the effects on economic efficiency that have resulted from capital market pressures - characterised by waves of private equity and hedge fund money and the breakdown of cosy banking relationships.

In the labour market, reforms - albeit piecemeal - were introduced under former chancellor Gerhard Schröder. Sinn's "bazaar" economy thesis loses its allure on glancing at the latest unemployment figures. The overall jobless total is on a clear downward trend and is currently at a 12-year low.

Sinn accepts the argument that greater specialisation among the world's economies and free trade increase overall economic efficiency. But sometimes he forgets the point. At one stage he argues that Germany lost its comparative advantage of a large domestic market once the European Union created its single market. Companies from even the smallest state had the same number of customers on their doorsteps. Without Finland's EU membership, Sinn postulates, Siemens - not Nokia - might now have been the number one producer of mobile phones in Europe, although "the phones might then have been slightly bigger".

The obvious riposte is that Germans benefit from superior Finnish technology, while Siemens makes great power stations and last year still employed more than 160,000 in Germany. Berlin is meanwhile learning from Helsinki, for instance on policy steps that encourage older workers to remain economically active. It would be wrong to put this book down feeling Germany was doomed.