A drawn out status quo
There’s an urgent need for radical structural reform to add new zest to a country that is certainly not devoid of capacity, intelligence and competence
- Tuesday, 10 September 2019
The superstars are losing their lustre and ageing: the major German industrial manufacturers are still big names but they are champions of the century past, way behind the cutting technological edge where the future is played out. German banks suffer more than others due to the lowest interest rates in the world, negative in the Eurozone and their profitability is too low. China, so often pandered to by Angela Merkel, is slowing and so are exports along the Duisburg-Chongqing rail link and out of the port of Hamburg. In Berlin, politics is becoming more and more introverted every day, as it clings to a Grosse Koalition that clearly has little more to give to a country, and is perhaps holding it back. The anchor of European stability for the last decade – shaped along the lines of German supremacy and the figure of Chancellor Angela Merkel – is reaching the end of its cycle. In 2019 it has come to realise it is no longer a bulwark. This is not good news: a strong Germany that knows its way forward is highly preferable to an uncertain and bumbling one.
Over the past decade, the country's economy has grown on average by 2% a year: nothing to write home about but still quite acceptable. Employment has risen to the highest levels among OECD countries and unemployment is at a historic low, under 4%. The public accounts are still posting a surplus and the debt is now under the Maastricht parameter of 60% of GDP. Wages have increased over the last quarter. In other words the country's current macroeconomic position is enviable. So why so much pessimism over a country that has seemingly excellent fundamentals but has also shown it knows how to react when times are hard (for example during the reunification, when it appeared to be the "sick man of Europe")? The reasons are to be found in the intersecting changes taking place in the world – both on the economic and geopolitical front – and the broader establishment's inability to see and confront them.
"Right now, the prospects for German industry are anything but rosy", was the claim made in early August by Robert Lehmann, an economist for IFO in Munich, one of the most revered research centres in Europe. "An increasing number of companies have announced they intend to cut production during the next quarter. This means that the number of pessimists now by far exceed the number of optimists. An end to the recession afflicting German's production sector right now is not in sight". In other words manufacturing is doing badly and this affects the economy in general: a recession of the entire economy is more than just a possibility, even according to the Bundesbank, and the upcoming Brexit makes it all the more likely.
In the short term, the first blows were felt due to the crises in the automotive and chemical sectors, followed by the slowing of the Chinese economy, Germany's main trading partner for the past three years. In the long term however, one can't help noting how German companies retain their excellence in sectors where they have consolidated their leadership over the years but don't cut it in the more innovative ones, such as battery manufacture, around which the cars of the future will certainly be built, and new telecommunication systems. Of course there are exceptions: but there is no doubt that from their pinnacle of success, the large industrial groups didn’t see the transformations of the Twentieth Century coming.
All of Germany is complaining about the low interest rates, which affect the profit margins of banks and insurances and hold back pension funds in a country of renowned spendthrifts. And there's a tendency to blame the European Central Bank and Mario Draghi when the low interest rates are actually due to the weak Eurozone economy and low inflation. The truth is that, even to a greater extent than the manufacturing industry, the banking sector is particularly bound to models of the past, with too many credit institutions and an organisation in which power relations, on a national but particularly on a local level, are strong and often block the path to innovation: at a time when the disintermediation of banks is becoming increasingly pronounced and interest rates are low (and will stay so), a large part of the system still relies on profits from the old differential between deposits and loans. In an excessively fragmented landscape: for example, the first five banks in Germany account for 29.7% of all banking assets, compared to 36.9% in the United Kingdom, 43.4% in Italy and 45.5% in France. In such a context, profitability is bad. The Bundesbank reckons that the cost of capital – meaning the rate of return on investment required to convince someone to buy shares of a German bank – is 8%: in the past three years, none of the three main credit institutions (Deutsche Bank, Dz Bank, Commerzbank) has even gone anywhere close. Once again, a dangerous indication of immobility.
How is it that Germany, a country of engineers and scientists and great bankers of the past, is having such a hard time innovating? The answer can be found in the recommendation made by the International Monetary Fund last July. Reducing the tax burden, particularly for poorer families. Providing greater assistance for children so women can be more involved in the labour market. Improving education: the OECD claims that "educational results and student success on the labour market are still closely linked to the student's social and economic background": in other words, the social elevator is not working. Encouraging wage increases. The need for structural reform in order to promote innovation, develop venture capital, reduce bureaucracy. Put pressure on the banking sector so that it restructures and increases profitability. The OECD adds the need to improve service productivity – clearly too low and featuring a lack of competition in crucial sectors such as trade and communications.
In other words, both the IMF and the OECD are asking Berlin to resume their efforts towards structural reforms. The country hasn't engaged in any significant action to this end for the past 15 years, since Gerhard Schröder's 2010 Agenda in the middle of the Noughties. For almost 14 years the Chancellor, Angela Merkel, has not promoted any, either during her leadership of the three Grand Coalition governments or when she governed with the Liberals. The result is that despite its industrial strength and the huge system of consensus that promotes it, Germany seems to be a country that is having a hard time keeping in step with the economic and technological challenges of the times, and especially with the innovation capacity of its main trading partners, China and the United States. It has no lack of ability, intelligence and competence. Nor are its large groups and its amazing medium size companies ideally devoid of the necessary resources. It's the political attitude that acts as a damper, and keeps things as they are, with high taxation, an extensive and often inefficient bureaucracy, and finance frustrated by the limitations imposed by an old yet dominant banking system.
Often outside Germany it is believed that the problem lies in the Schwarze Null, the decision to keep balancing its public accounts or posting a surplus. Better still: many say Berlin should spend more. The issue is obviously more complex. Not just because German ordoliberalism, meaning the dominant orthodoxy, goes in the opposite direction. But also because both the government and the majority of the population believe that strong state accounts provide an insurance when things get tough. As for example happened just a few years ago when one million refugees flooded in and had to be integrated, or what allowed the country to weather the 2008 crisis fairly painlessly along with the euro crisis. And the one in the offing due to the country's ageing population. Of course Germany needs to lower its tax burden. But it also needs extensive structural reforms, of the kind Frau Merkel forgot to introduce when she became chancellor in 2005 and now, at the end of her career, hasn't the strength, or the will, to impose.
This article is also published in the September/October issue of eastwest.