Germany: The shadow side of the rocky reform road

In a recent post and in direct or indirect reply to a post by Michael Burda, I talked about the “rocky road to full employment” — borrowing a phrase from the neo-structuralist Lance Taylor. In short, neo-structuralist thinking in the spirit of Taylor describes economic development as an integrated process with a special focus on distributional conflicts, the interaction with social and political structures (to a large extent inherited from colonial past) and a far more open view regarding state interventions as in more market-dominated approaches.

Structuralist economic thinking — in the Latin American CEPAL tradition — has been widely out-of-fashion in German academic debates and political circles for quite a long time. In (macro)economics, the rhetorics of rule-based money-supply (the legacy of the Bundesbank), the “German view” on non-Keynesian effects of fiscal consolidation and the supply-side approach of the “Sachverständigenrat” (Council of Economic Experts) have been dominating the debate for at least 25 years. Labor market economics became the dominating playing field for a whole generation of young economists — as the impressive success of institutions as the ZEW institute in Mannheim or the IZA in Bonn in academic reputation and policy advice shows. Recent posts by Michael Burda and Ester Faia in this blog show the importance of labor market issues in the “reform debate” not only in Germany but all over Europe.

However, as the recent discussion — also featured in this blog by the posts of David Milleker and Michael Burda — shows, distributional conflicts and the discussion about a “double turn” in the reform course are far from being solved. Some of the most prominent German economists are taking a harsh position in the debate. The highly-approved president of the German Institute for Economic Research (DIW) as well as president of the IZA institute, Klaus F. Zimmermann, labelled the debate on the extraordinarily high salary of German top managers “populism”, his colleague Hans-Werner-Sinn from the ifo Institute in Munich called the introduction of minimum wages “Teufelswerk” (in fact he used the formulation [minimum wage is the] “idea of evil”, see footnote) in an article published shortly before the Christmas eve in the influential newspaper “Wirtschaftswoche”.[1]

On a more fundamental level, however, there is neither a concrete nor an abstract devil behind the so-called “Linksruck” in Germany (a shift to the political left). The story can be understood, if we consider empirical facts from some recently published papers on income distribution, wealth distribution and the effects of the recent labor market reforms on the working poor as well as the dispersion in income and wealth. In a number of weekly reports (most of them only in German here), researchers running the German socio-economic panel (GSOEP) and other researchers analyzed these issues.

The results can be summarized as follows:

  • Poverty in Germany is increasing since the mid-1990s, with skilled and unskilled workers being chiefly affected.[2]

Figures 1 and 2 show the tendency.

  • The primary income distribution shows an impressive increase in skewness — especially when controlling for very high income households. The study states that whereas the real market income for the average remained constant in the decade from 1992 to 2001, the only group with significant increases is the upper 10%. The “economic elite”, the upper 0.001% of households realized an increase in the real income by 35%. [3]
  • The wealth distribution turns out to be more skewed than the market income distribution accoring to new data. [4]

The figure below shows the distribution according to deciles.

  • The actual situation of the persons under social assistance remarkably changed after the introduction of the recent wave of labor market reforms. More than half of the households receiving unemployment assistance or social assistance are hit by income losses. This effect is pronounced in the case of single households or households without childs. The ratio of assistance receiving households living below the poverty line — less than 60% of median income — increased from about half of the households to two third of the households. [5]

This in turn might help to explain how strong the shockwaves are, which are hitting the pillars of the German social consensus, a consensus which guaranteed relative distributional stability over decades in Germany but has been blamed for avoiding necessary structural reforms for a long time (“Reformstau”).

In a recent well-recognized book on the myth of the rational voter , Bryan Caplan uses survey data to explain the differences between public perceptions on economic reforms and the professional view of economists. The book is well-written, witty and contains a lot of interesting examples. However, the conclusion the author draws from the empirical facts are shaky. As a good economist — and in the tradition of Bastiat and Smith — he does not accept the “non-rationality” but claims for more efforts to educate the voter towards economic rationalism.

Instead of doing this, economists should consider redistribution effects more carefully. A rational appeal in itself does not work nor does blaming politicians as populists (if we accept that it is the politician’s role in a democracy to consider the elector’s will honestly). Learning from neo-structuralists about asking the right questions helped a lot in development economics and stimulated a fruitful debate about a “Post-Washington-Consensus” (supported by Joseph Stiglitz, Dani Rodrik and others). Structural reforms can undermine social consensus and by designing reforms this has to be taken into account. This, however, can’t be done by blaming debates stemming from a deeply felt perception of insecurity as “devil’s work”. It is time for Europe to think about a more balanced approach for structural reforms. Let’s us ask the right questions in the coming year.

Happy New Year.

[1] “Wenn Frau Merkel bei ihren Bürgern zu Weihnachten nicht nur gute Gefühle wecken will, sondern ihnen wirklich Gutes tun will, dann sollte sie keinerlei Kompromiss in der Mindestlohnfrage zustimmen. Nicht das Christkind, sondern der Teufel hat sich den Mindestlohn ausgedacht.” by Hans-Werner Sinn, published under the title “Weihnachtsangst”, WirtschaftsWoche, Nr. 48, 26. November 2007, p. 230.[2] Increasing Persistent Poverty in Germany, DIW Weekly Report 4/2007, Author: O. Groh-Samberg.[3] Zunehmende Ungleichheit der Markteinkommen: Reale Zuwächse nur für Reiche, DIW Wochenbericht 13/2007. Bearb.: Stefan Bach and Viktor Steiner.

[4] Vermögen in Deutschland wesentlich ungleicher verteilt als Einkommen, DIW Wochenbericht 45/2007, Bearb.: M. Grabka, J. Fricke.

[5] Nach der Einführung von Arbeitslosengeld II: Deutlich mehr Verlierer als Gewinner unter den Hilfeempfängern. DIW Wochebericht 50/2007, Bearb.: J. Goebel, M. Richter.

One Response to "Germany: The shadow side of the rocky reform road"

  1. David F. Milleker   January 1, 2008 at 5:24 am

    Ulrich, Thanks. This is an excellent post which sums up why “policy advice”-oriented economics in Germany is indeed a most dismal “science”. The very idea of “re-educating” the electorate in order to align its thinking with those of economists just sucks. Hope to see you in a week’s time. All the best for 2008, David