What are the strengths and weaknesses of the "German model?"

It has become almost a cliche to talk about German economic superiority with respect to performance across the rest of Europe since the war. In the immediate aftermath of economic and financial reform in 1948, the (West) German economy displayed exceptional growth that averaged 8.2% p.a. in the 1950s. Although slowing by these standards somewhat in the period 1960-73, growth was still high by today's standards, averaging 4.4% expansion every year during this period. As with all the other OECD economies however, growth has slowed since then, to just 1.9% p.a. during the 1980s. What is remarkable about the slowdown is that it did not lead to the rise of stagflation that crippled so many other advanced industrial economies - whilst in 1980 Britain and Italy were dealing with inflation rates of 16.2% and 20.4% respectively, Germany's was a mere 5.8%, less than half the level of the OECD average at the time. This superiority in maintaining price stability has lead Germany to inheriting a reputation of being tough on inflationary pressures. This success was matched with a similar story on unemployment, with full employment maintained between 1960 and the first oil shock in 1973. Further, until recently, German unemployment performance exceeded that of other European countries, with an average unemployment rate of 7.1% during the period 1990-97 contrasting with 8.8% in Britain, 9.5% in Italy, and 11.2% in France. Nevertheless, despite this seemingly incontrovertible evidence of a continuing success story (particularly via-a-vis its European partners), there has emerged a great deal of debate (and even concern) in recent years about the apparent deterioration of Germany's economic performance that could have serious repercussions for its future potential, especially given its position now as the largest economy in Europe, and hence the economic "leader" in terms of economic growth theory. It can either be argued that its slowdown is an inevitable function of this, or with more serious implications, that the German model that was the basis of success in the past is no longer suited to sustained growth and high competitiveness in the future. To evaluate these claims will require an examination of what it is that is special about the German economic structure.

Carlin points to several hallmarks of the German model. Firstly, there is the structure of industrial relations, where unions are organised at the industry level and co-exist with works councils that exist at both plant and company level to negotiate with highly organised employers' associations when determining wage increases. As Nickell explains, wage determination in Germany is dominated by the industry-level unions facing co-ordinated employers whose wage agreements are extended to non-union firms within each region. The strength (but also general co-operation) of unions as a result of this is unique among OECD countries, which have been marked by either substantial weakening of union powers (USA, UK) over the last twenty years, or consistent union militancy (France, Italy) where unions have remained strong. The second feature, and perhaps the most important, is the system of vocational training that exists in Germany, where the emphasis is on apprenticeships ahead of purely educational qualification. In comparing the systems of education and training in Germany and the UK as Soskice does, he points out that although there are fewer university students in Germany, the overall number of young Germans lacking any form of qualification is much lower, at around 20% than the figure in Britain, which is close to 50%. There are more than three times as many trainees in Germany as in Britain, and this number has been rising in Germany for the last thirty years (whereas it has been falling here). However, it is not simply a matter of numbers, but of the attitude and outlook towards these types of training in Germany that it is important to take note of. Vocational training is seen as complementary to academic endeavour, and not an alternative to it, and at the end of every course, a highly regarded certification qualification is awarded that is valid for a range of over 400 occupations. Training in the workplace is also supervised by experts who will be more skilled than the average worker in their field - this class of higher-paid worker/trainer is unique to the German system of training. The implications of this system will be examined more closely below. Finally, Carlin's last element of the German model is the close relationship between the financial and industrial sectors - the banks in Germany are no longer simply institutions that exist to transfer surplus finance from households to enterprise. Instead, through ownership or representation within the company, they are active participants in shaping the industry. Due in a large part to the local base of savings banks, they are interested in (and hence promote) long-term investment in and health the overall health of the companies they are working with.

Nickell's study of the German labour market highlights the importance of the training system in maintaining income equality (inequality as measured by the Gini coefficient has increased only slightly in Germany over the period 1980-1990) and productivity given the shift in labour demand preferences away from unskilled and into skilled labour that all developed countries have been forced to deal with. Real wages for workers in the bottom decile of the income distribution have risen rapidly in Germany, yet unemployment for the unskilled is lower in Germany than in Britain and similar to the United States. The much-vaunted labour market rigidities (such as the problems inherited from East Germany following reunification and immigration from elsewhere in Eastern Europe) do not appear to have hampered overall German prosperity and technological advance (although, as we shall see later, these statements need to be qualified). Nickell believes that it is the German education and training system that has meant that the relative supply shift in favour of the skilled in Germany has kept pace with the relative demand shift in a way that has not occurred in either of the US or the UK, due to the ease with which a greater proportion of the population can assimilate new skills and respond to changes in the pattern of demand. Thus as more people acquire skills that allow them to transfer into high-skill jobs, the supply of labour to work in these expanding sectors rises, keeping wages down in these areas and up in low-skill areas. This is compounded by the increased productivity of the bottom-end workers through the training in the workplace (and indeed, through the schooling system itself, which places the emphasis on minimum standards for the lowest achievers, and consistently produces pupils who outperform their foreign counterparts), which sustains the low-skilled workers' high wages (maintaining wage compression in the labour market as a whole) and low unemployment rate. The objection that this only applies to manufacturing, whereas most of the low-skilled are employed in the service sector is fallacious, as the better training and organisational skills of supervisors means that this argument also applies there.

Despite the advances that this combination has brought to the German economy, its utility has been questioned in recent years. Carlin and Soskice have pointed out that recent job losses in industry, and a plummeting of productivity in manufacturing may be indicative of a failure of the bargaining system (applying to unions, employers, the Bundesbank, and the public sector) to negotiate a proper sharing of the burdens of reunification, although once the shocks of this and the need for consolidation to meet the Maastricht criteria have been overcome, growth will return. However, there is also another line of argument that claims that reunification and all its related problems have simply exposed underlying weaknesses that have been present in the (previously West) German economy for some time, as evidenced by the slowdown in GDP growth in line with the other OECD economies. This claims that the risk-aversion that is built into the German economy is not conducive to successful economic performance in the future. Another view is that the entire institutional structure that functioned so efficiently throughout the post-war period is now unravelling. The evidence suggests that, whilst there are some areas that display worrying signs for long-term prosperity, other indicators have been affected by short-term shocks. For example, German export performance has remained strong despite rising unit labour costs. In terms of shocks, the importance of the post-unification transfer of economic resources from West to East cannot be underestimated - it has been predicted that it will be well towards the 21st century before living standards are equalised across Germany. Until that time, social security payments will be disproportionately weighted towards the former East. However, the rise in the unemployment component of this rise in spending on the welfare state is consists of a large proportion of the over-55s who are not actively seeking work and who are waiting to move onto other forms of retirement benefits and pensions. Thus the unemployment situation is not as critical as some observers have made out. Nevertheless, in the long run, Germany is undergoing the same demographic trends that are distorting welfare states across the developed world; this cannot be taken as evidence of a spurious shock unique to Germany though. More worrying would be the lack of foreign direct investment that other countries in the EU have been benefiting from - it seems apparent that rising unit labour costs and the institutional structures are not conducive to attracting the sort of investment flows from the US and the Far East that are helping many depressed areas across Europe. Germany could suffer despite its training system if firms start to relocate to other areas within Europe. There is also unquestionably a North-South divide along structural sunrise-sunset industrial lines that is affecting the German economy.

Overall, these are not problems that are particularly unique to Germany, and it appears that it would be possible to target them within the existing institutional structures - the continued success of the educational and training system suggests that it should certainly be retained. What is important to understand is that the German economy does not specialise in radical innovation, but instead in transferring technological innovations into high-quality exportable products, and the current institutions have been the bedrock of this area of economic activity. It is only if Germany wishes to increase its share of radical innovation - and possibly engage in a damaging struggle with other countries to achieve superiority in this field - that it should follow the US/UK path of market deregulation. However, to combat the current problems - in particular, the unprecedented contemporary levels of unemployment, may require the German authorities to examine methods of intervention they are normally averse to using, such as fiscal and monetary loosening. The failure to consider novel policy approaches earlier this decade led to the collapse of the ERM (Germany should have revalued post-reunification); inflexibility in the future could lead to similar problems for Germany or EMU.