For two decades now, German policy-makers have been wrestling with one of the most perplexing challenges in economic history: how to integrate the backward states of the old East Germany into a highly advanced First World economy. Along the way the authorities consciously chose to let economic growth take a backseat as they battled pressing political concerns. Most obviously they opted at the outset in 1990 to value the old East German mark at a 1-to-1 parity with the West German mark, fully aware that the consequence would be long-term unemployment in the East. But the decision achieved a crucial immediate political objective in forestalling a sudden, potentially highly destabilizing population lurch from East to West. The skills that older East German workers were equipped with, however, were useless in an advanced First World market economy and, with no case for paying such workers anything like West German wages, unemployment remained high for years. If any advanced nation has had an excuse for a subpar economic performance, it has been Germany.
Yet today, Herrigel says, "I have traveled very extensively in the country and it is everywhere very, very prosperous. There are no pockets of extreme poverty such as we have on Chicago's West Side. Many parts of America have conditions more like those in developing rather than developed economies."
***The secret of the German system's success is, in large part, a strong national commitment to advanced manufacturing. At last count the industry still made up about 20 percent of Germany's total output, compared with little more than 11 percent in the United States. The pivotal significance of a strong manufacturing sector is understood by virtually all thoughtful Germans even if it is scorned by many of America's most influential economists.
Pat Choate, a Washington-based author and longtime advocate of a strong American manufacturing base, points out that manufacturing can be -- and often is -- both far more capital intensive and far more know-how intensive than the advanced services such as software and financial engineering on which the United States has staked its future. "The Germans, like the Japanese, have a structural advantage," Choate says. "They have concerned themselves with the structure of their economy, while we have been indifferent. It would be unthinkable for the German government to facilitate the outsourcing of industry as the Clinton and Bush administrations did."
Choate adds that German manufacturers enjoy a key advantage in research and development thanks to close links with universities. "The German system of research institutes goes back to the Kaiser Wilhelm institutes of the 19th century and continues today," he says. "Germany is a major source of basic research and then practical development. We got a boost before and after World War II when so many of their scientists came here, but we have failed to link our research universities with industry as ... the Germans [have]."
Meanwhile, on examination, many of Germany's economic failings turn out to be strengths in disguise. Take, for instance, the almost complete absence of credit cards. This is generally taken by American observers to be merely a reflection of an antiquated German economic culture. But Luigi Guiso, a Florence-based expert on economic culture, points out that there is probably more to it than this. As a matter of policy, the German banking system has hindered the rise of credit cards and has instead promoted debit cards. Credit cards reduce the savings rate whereas debit cards boost it, providing German banks an abundant source of funding to support their corporate clients.
All this makes more sense when you realize that in many areas of advanced manufacturing, the global economic cycle is particularly severe. Thus, even the most capably managed companies sometimes need considerable financial support to ride out downturns. This is where Germany's continuing high savings rate comes into its own. The savings are disproportionately channeled -- via Germany's bank-dominated system of patient capital -- into supporting advanced manufacturers. These then typically come back stronger than ever in the next up-cycle. By contrast, their competitors in nations like the United States and Britain have too often had to fend for themselves. Over the last half century, each succeeding recession has left American and British manufacturers more financially exposed. As a result, Germans have consistently increased their market share in advanced manufacturing. There is a long list of specialty items in which even remarkably small German makers now dominate world markets. Examples run the gamut. Windmoeller & Hoelscher, for instance, enjoys a 90 percent share of the world market for machines that make heavy-duty paper bags. Achenbach Buschhütten has a similar share of the world market for aluminum-rolling mills. Herbert Kannegiesser dominates the world market for hotel laundry equipment.
Although most economists of the Anglo-American tradition regard Germany's job-protection arrangements as a major competitive disadvantage, these represent yet another way in which the German model is focused on the economy as a whole. From the point of view of a shareholder interested merely in short-term profits, it may be inconvenient that a corporation cannot readily lay off workers in a downturn, but for the whole economy, the result is clearly to dampen the negative effects of the economic cycle.
More important, because workers enjoy considerable job security, it is much easier for management to introduce new, more efficient production technologies. Workers tend to embrace new technologies as the best way to ensure their job's long-term viability. Moreover, the infrequent worker turnover at German companies is a key reason why German employers are willing to invest heavily in employee training. As Herrigel points out, there is far less risk than in the United States that workers will take their skills to a rival employer. "Germany has constructed a whole system to prevent poaching by rival employers," he says. "There is no such thing as free riding, whereby an employer can poach away workers by offering them a few pennies more per hour. The whole German economy depends on skilled labor, and there is a robust program of vocational training in which every employer participates."
Even the co-determination system works well. Although in theory workers might be tempted to use their boardroom power to award themselves unrealistically large wage hikes, in practice this rarely happens. Instead, workers take a moderate approach in the interests of their employer's long-term health. The result is that German corporate executives generally regard co-determination as an aid and not a hindrance as it helps ensure worker flexibility when work procedures need to be changed or tasks reassigned.
One of the more consequential effects of co-determination is on corporations' outsourcing policies. Where the most sophisticated production technologies are concerned, workers have a strong interest in preventing technology transfers abroad, which are rightly seen as undermining the viability of jobs at home. In opposing such transfers, workers are acting precisely in the national interest. By contrast, the American model, in which companies like IBM, Boeing, and Hewlett-Packard readily transfer even many of their most advanced production technologies to foreign subsidiaries, clearly hastens the demise of American economic leadership.
German labor tends to respond resourcefully in the face of outsourcing threats. Herrigel cites the example of one engineering company he studied, which cancelled an outsourcing plan after consultation with workers. "This was a company that made huge ball bearings for the shipbuilding industry, and the task of polishing and assembling the bearings was considered too labor intensive for German workers," he recalls. "As a result of works-level consultation, however, the trade union suggested new, more efficient work procedures that made it preferable to retain the entire production in Germany."
Perhaps the ultimate proof that all this adds up to an extraordinary engine of economic success is in Germany's export performance. In 2008, for instance, German exports reached fully $1.49 trillion, which comfortably topped America's $1.27 trillion. Put another way, on a per-capita basis Germany out-exported the United States by more than 4 to 1 ($18,200 per capita versus $4,160). Wolfgang Lutterbach of the German Confederation of Trade Unions puts it succinctly: "How can we be champions in so many international markets and not be efficient?"
As of 2010 the Germans are evidently more efficient than ever. David Marsh, a London-based consultant and author of The Bundesbank: The Bank That Rules Europe, sums up the story: "After the reforms of the last decade -- but also after the setbacks of the credit crisis and ensuing recession -- the German model has emerged in better shape than before, to face the exigencies of global competition. About 90 percent of the German model -- crucially, the web of understandings between different sections of business, employees and government -- has survived intact."
Correction: Due to an editing error, the following line, "In 2008, for instance, German exports reached fully $1.49 trillion, which comfortably topped America's $1.27 trillion," read billion, rather than trillion.
