Executive Summary: The End of the Years of Plenty? American and German Responses to the Economic Crisis
- The euro crisis and Great Recession have contributed to a renewed focus on Germany. Within Europe, observers question whether Germany, as a leading exporter, has profited from the euro and destroyed the competitiveness of the periphery, or if Germany’s economic strength and leadership role is more a result of its successful economic order. The present political process to save the euro has contributed to a decrease in enthusiasm for further European integration among people.
- German economic policy, rooted in the principles of Ordo-Liberalism, has historically emphasized a policy of cash reserves and mercantilism (accumulation of economic surpluses) together with strong state institutions. The formal articulation of Ordo-Liberalism in the postwar period combined order and economy to establish a formal economic order in which states and markets interact in such a way that guarantees individual freedom and market efficiency, but protects against state interference on behalf of narrow interest groups. Fundamental principles are: functioning price mechanism, a stable monetary policy, a guarantee for open markets, private ownership, and freedom of contract, as well as individual and institutional liability, and a policy of steadiness.
- Keynesian stimulus programs implemented in the 1970s and 1980s did not lead to economic growth in Germany. Reunification in 1990 caused a significant increase in the federal deficit, failed to jumpstart the economy, and led to recession in 1992. Germany then exported its inflationary problems from reunification to the EU, affecting plans for the single currency and ultimately leading Chancellor Kohl to abandon the Deutsche Mark. Budget deficits persisted until 2007, only to have the recession undo the balanced budget again in 2008.
- The thinking in Germany that imports are bad for the economy and exports are good has created broader problems. The euro crisis is also a result of Germany’s sustainable trade surplus. Because Europe’s current account is almost balanced, Germany’s trade surplus must be balanced with deficits from others in the eurozone. In order to buy exports, importing nations must also import capital mostly from foreign banks. The importing country continues to owe Germany as they run current account deficits; those debts end up on the balance sheet of the banks from surplus countries. If the imbalance continues, the deficit country becomes over-indebted, defaults, and creditor banks receive less of the debt they are owed. Banks with insufficient capital must then be rescued. Ultimately this is a redistribution from the general tax payer to the owners of and employees in the export industry.
- If a deficit country cannot depreciate its currency, then they have three options to remove imbalances: 1. Keep wage increases lower than economically stronger regions; 2. Workforces can migrate to stronger regions; 3. Money transfer from faster growing regions to slower to support those that no longer are competitive. German policymakers probably prefer the migration option (based on their experiences with reunification).
- Much as the U.S. is to the rest of the world, Germany has become the hegemon in Europe, and its power and influence is necessary to solve the crisis. Furthermore, the euro crisis presents broader security implications: economic decline is considered one of the biggest threats to world peace and the lack of funding for defense and security could prohibit Europe from sharing the burden to provide global security with the United States.
- The causes and responses to the Great Recession varied in the U.S. and Germany. U.S. fell into recession due to declines in private consumption and fixed capital formation, whereas Germany was impacted because its exports fell faster than its imports.
- Automatic stabilizers are stronger in Germany and weaker in the U.S. than the OECD average, meaning that the U.S. has relied more on fiscal stimulus and tax breaks to drive economic growth. However, looking at the relative scale of government stimulus, Germany’s general government demand creation was more than twice the level of the U.S. after the recession began and has contributed positively to GDP. U.S. federal stimulus efforts have been undermined by cuts at the state and local levels.
- U.S. unemployment is higher than in Germany despite Germany’s comparatively deeper economic downturn. Germany’s government-supported work schemes (short-term work, reduction in overtime hours) reduced hours worked rather than jobs. U.S. employers shed workers. Thus the U.S. has historic high unemployment and Germany has its highest employment rate ever.
- Differences in central banks’ roles and policies have been part of the varied responses across the Atlantic. Germany and the EU are under-institutionalized to handle a crisis of this magnitude. ECB members have the same amount of influence (same number of seats), giving Berlin less influence than in other EU institutions. Initially both the ECB and the Federal Reserve reduced interest rates dramatically. The Fed then acted to bail out key financial institutions. ECB faces daunting institutional obstacles and a more complex problem: it must consider multiple individual governments without exercising any central fiscal authority.
- Looking ahead, political responses across the Atlantic will converge more when economic circumstances converge.
This Executive Summary is part of AICGS Policy Report 49, “The End of the Years of Plenty? American and German Responses to the Economic Crisis,” by Tim H. Stuchtey (BIGS), S. Chase Gummer (BIGS), and Jacob Funk Kirkegaard (Peterson Institute for International Economics). The Policy Report will be available in hard copy and online in late December 2011.