Ten years after its birth, Agenda 2010, the series of structural reforms announced and implemented by then German Chancellor Gerhard Schroeder, has become the symbol for Germany’s “Jobwunder” (jobs miracle). Since the eruption of the euro crisis, this economic reform package has also turned into the blueprint for the economic overhaul of parts of Europe. And it is now Schroeder’s successor, Angela Merkel, who argues that the Agenda is the right recipe for turning European’s structural weaknesses of today into future strength.

Mario Monti, the outgoing Italian prime minister, has tried to adapt the Agenda 2010 to his own country’s needs. Like Schroeder before him, he won’t be able to witness the positive effects of the reforms as head of the government. The German Social Democrat was forced into early elections in 2005 and lost. The Agenda 2010 ended Schroder’s political career. The technocrat Monti was condemned to political irrelevance by Italian voters just over two weeks ago, thus confirming that enacting reforms rarely pays politically.

However, this should not be the main lesson for European politicians trying to address the economic weaknesses of their respective countries. More importantly, the dominant narrative surrounding Schroeder’s Agenda 2010 conceals the uniqueness of the German situation.  What happened in Germany a decade ago might not work in the present economic and political environment elsewhere. Why?

Let’s first consider the timing. Contrary to widespread belief, the positive effects of the Agenda reforms in Germany took more than merely one or two years to be felt. The main reason for this is the fact that the reforms only came after many years of wage restraint, particularly in small- and medium-sized companies.

The Agenda 2010 merely completed an economic process that had already started towards the end of the 1990’s. In those years, cheap Eastern European labor had become a threat to German employees in the manufacturing sector. German companies were heavily investing in Middle and Eastern Europe, confident that there they would find highly skilled workers at a fraction of the cost they had to pay at home. In the media, headlines about tough negotiations between large unions and employers in the steel industry completed the picture of  a rigid German labor market incapable of adapting to rapidly changing conditions.  Unions were described as too strong. Germany was losing competitiveness.

However, beyond those headlines, the reality on the ground was already changing. In the years preceding Schroeder’s reforms, employers and employees in the majority of companies (particularly in SME’s, which are the ones that create jobs) were already looking for a middle ground.  In fact, unions had been weakening for some time, replaced by a more flexible consensus driven approach between employers and employees at company level.  Not surprisingly, when Schroeder’s reforms were introduced the country was ready to benefit from the voluntary ‘reforms’ that had already taken place over the previous years in the private sector. And yet, despite this improving environment, the rate of unemployment only started to fall many years after the Agenda 2010 was implemented.  When it finally did, in 2006, it was primarily the (often subsidized) low wage sector that started to grow. That’s where around 20% of all jobs can be found today. The lower level of skills of these employees was rewarded with lower wages. Germany had its “Jobwunder,” but it came at a cost. The reforms created a two-tiered labor market, consisting of a flexible, low-wage sector and one that, despite reforms, continues to be very rigid to this day.

At the same time, bigger German companies, while often shedding jobs at home, were adapting to the increasing challenges of a global economy. Yet, many remained largely anchored to European demand, which (thanks to cheap credit spurred by the introduction of the euro) continued to grow and absorb German products even as Germany was struggling to overcome a decade long period of sluggish growth. Hence European growth offset the temporary adverse effects of structural reforms on domestic demand in Germany.

Therefore, looking at the legacy of the Agenda 2010 reforms, there are at least three broad lessons for Europe:

First, the positive effects of structural reforms can take much longer than expected before they are felt. With unemployment in Greece, Portugal, Spain, and Italy climbing to record levels, a large section of the population could be shut out of the job market for years to come, thus creating the potential for a socially combustible, or at the very least depressed, environment. Those who believe that the stronger the cure, the faster the bounce back to healthy levels of growth could be spectacularly wrong.

Second, structural reforms in a single country tend to work well in a mostly benign environment, i.e. when the global or regional economy surrounding the country undergoing structural changes is already growing and ready to partially offset the harsher effects of reforms. Part of the solution is economic convergence. In order to converge, the economies of both stronger and weaker nations need to rebalance. This is not happening in Europe. The euro zone is instead trying to rebalance at the cost of other world economies, such as the U.S. and emerging markets, perceived as potential consumers of last resort.

Third, structural reforms enacted by the government are simply not enough if employers and employees in the private sector continue to be reluctant to make some sacrifices. Despite recognition that more flexibility is needed in countries known for their labor market rigidities such as Spain, France or Italy, not enough has been done. What is required is a deep cultural shift, not merely a change in the rules. This will take time.

Ten years after Schroder’s Agenda 2010 speech, Europe should take a second look at Germany’s way out of its own crisis. It takes more than a package of largely cautious steps undertaken by a government to get a country, or a continent for that matter, back on track. Merely replicating what Germany did over  the past 10-15 years in a compressed period of time is not a magic potion. It could make matters worse.

 

  • K Bledowski

    This is a very apt insight.

    Germany created fast gains in employment by introducing a dual labor market. Lower paid jobs with much leeway for hiring and firing coupled with expansion of supply chains came in at the right time and in the right place. As emerging Europe, Asia, Middle East, and Latin America boomed, German manufacturing was ready to play along. Productivity gains had little to do with it. Labor cost had everything to do with it.

    Second, societies move institutions, habits, customs, and mores slowly, certainly over many decades, easily over centuries in some cases. To expect that handpicked parts of Europe can become the new Germanys within a budget cycle or two is wishful thinking. The American Deep South is still poor, just as it had been a century ago, although parts of it emancipated gradually to rival in productivity the Midwest and Northeast. And Canadian Atlantic provinces languish despite massive transfers from other provinces via Ottawa’s requited and unrequited equalization payments.

    Europe needs to climb down its lofty rhetoric of a deus ex machina European homo economicus. Reverse social Darwinism is a nice goal but it won’t fly. Regional gaps in productivity, income, wealth, and propensities to take on risk are bound to persist despite various social engineering efforts to “right” them.