Germany vs. US: Two Different Approaches to the Recession-Becker

In many past commentaries I attacked labor markets in Western Europe as being too rigid regarding layoffs and hires, and for providing too generous unemployment compensation often for very extended periods. That rigidity explained why unemployment rates in the 1990s and the first 6-7 years of this decade were much higher there than in the United States. Responding to the facts of high unemployment and long durations of unemployment, and to criticisms of their labor market policies voiced by economists, many countries of Western Europe began to reform their labor market policies to make them more flexible, and to limit the duration of government support of unemployed workers.

The case of Germany is one of the most interesting, only partly because Germany is the largest economy of Europe. Under the long reign by the conservative Christian Democratic Union, little was done to reform the German labor market. In a reminder again of the “Nixon going to China” doctrine, the socialistic Social Democrats, led by Gerhard Schroder, introduced various labor market reforms in 2003 after being elected to power in 1998. He cut the length of the period of eligibility for unemployment compensation, extended the age of retirement and reduced retirement pensions, and made it a little easier for companies to layoff workers. In good part as a result of these policies, while Germany unemployment had been close to 10%, it fell to 7.5% prior to the onset of the recession, perhaps mainly due to these reforms.

Germany was hit hard by the worldwide great recession as world GDP took a nosedive, mainly because Germany is the world’s second largest exporter after China. Its GDP fell by over 5 percentage points in 2009, and is expected to rise by about 2% this year as world GDP recovers, and because the euro has fallen by about 10% relative to the dollar since the euro peaked at about $1.5 per euro. The German economy as measured by GDP was during the first quarter of 2010 still somewhat below comparable numbers for the first quarter of 2008.

What happened to German employment and unemployment is even more interesting. Employment fell only slightly, but part time work increased sharply as jobs were spread. Unemployment rates increased only a little. Unemployment is now down to its 7.5% pre crisis level, and employment is back at its earlier peak, and part time work is declining, as the German economy continues to recover.

Contrast this with the American economy. On the one hand, the US financial system was hit much harder than the German system. On the other hand, the German economy is far more dependent on exports than is the American economy. The net effect of these differences is not completely clear, although US GDP fell by a lot during the first year after the recession hit, but then began to recover at a moderate rate. Whereas Germany’s unemployment rate grew by very little during the recession, the US unemployment rate grew by over 5 percentage points.

This difference in employment and unemployment behavior between Germany and the US may be mainly the result of the fact that the American labor market is still far more flexible in most respects than the German labor market. However, if that were the main explanation, then the jobs recovery in Germany should have been slower than in the US, but that has not been the case. Total jobs in Germany are about at their pre-crisis level, whereas the number of Americans employed is still several million below its peak in 2008.

Germany was criticized because it did not have a big enough stimulus and did not run large enough fiscal deficits to stimulate the economy.  In early 2009, Germany introduced a 50 billion euro stimulus package after much urging from intellectuals and some economists. That is about 1.6% of its GDP, with about one-third earmarked for infrastructure improvements, and the other two thirds going to tax cuts, child allowances, and social benefits. Even more important from the traditional “stimulus” analysis, Germany’s fiscal deficit is expected to hit between 5-6% in 2010, smaller than the fiscal deficits in many euro-zone countries.

Contrast these numbers with those for the United States. The American stimulus package of about $800 billion-by no means as yet all spent- is 6% of American GDP, about four times as large relative to GDP as the German stimulus. Even more telling is that the fiscal deficit during 2009 and expected during 2010 amount to about 12% of American GDP, far larger than the fiscal deficits Germany has been running. Germany has recently taken actions to cut spending and raise some taxes, while the US government continues to think of ways to increase government spending, as if the huge fiscal deficit is not enough.

Let it be clear that I am not claiming that US employment and unemployment has been very sluggish in recovering to pre crisis levels mainly because the US has had a large stimulus package and large fiscal deficits. They probably have been factors, but the evidence is still too uncertain to reach such a judgment. But it is clear that the stimulus package completely failed relative to the explicit predictions of the Obama administration and its Council of Economic Advisers about what would happen to unemployment. They predicted unemployment would decline by about 1.5 percentage points from a much lower peak, whereas so far the total decline from the higher unemployment peak of 10.2% is only 0.7 percentage points.

I continue to believe that the biggest factor in the sluggish employment recovery of the US is that many of the actual new and proposed anti-business legislation, as well as the large fiscal deficits, made businessmen and investors cautious about taking on new workers. These proposals and laws include the health care bill, the pro-union bias and anti-business rhetoric of Congress and the president, suggested increased taxes on higher earners, changes in anti-trust laws to be less pro-consumer, and the endlessly complicated and largely misplaced financial “reform” law. Germany, by contrast, has continued with the same coalition government headed by the mainly pro-investment, pro trade Christian Democrats. Germany surely made various mistakes during this recession, but the US has made many more.

 

Comments

[William Ojendyk]

One factor by which the current US economic crisis *doesn't* resemble prior crises in the US is that there are currently a high number of unfilled job openings. While I certainly imagine that liberal unemployment insurance policies prevent some of these openings from being filled quickly, other factors should be considered: the difficulty in switching careers within a highly specialized labor force and--probably more important--the fact that the limp housing market makes it practically impossible for people to relocate to where the jobs are. Germany never experienced a housing bubble; therefore, it *should* be easier for people to relocate for work; the US housing crash was severe enough to lock people into high-unemployment regions.

[Jim]

Very good, professor. Read the op-ed by Fleischer in todays WSJ for a more practical example of your theory. You might also be interested
in Peggy Noonan's op-ed in Saturdays WSJ on the pyschological root causes. Putting 2 and 2 together is a rare talent these days.

[lukas]

Surely the fact that Germany heavily subsidizes temporary part-time work (via the "Kurzarbeit" scheme, http://www.ing.com/ezonomics/showdoc.jsp?docid=422436_EN ) must factor into the comparison?

[Barry Kelly]

What I'm not seeing in this analysis is the wealth effects of the US housing bubble. Germany didn't have a property bubble. In view of how much of the pile of muck was created by the financial sector and the housing bubble, it seems to me a more than a little shortsighted and ideologically driven to focus on differences in deficit spending etc.

Even the very phrase "anti-business legislation" is propaganda.

[Alex]

It could have simply been that given the higher difficulty of firing workers relative to the United States, German employers simply held onto more workers since the marginal cost of firing worker #x was higher for them than for the same employer in the United States. This would explain only the minor increase in unemployment. As for why hiring bounced back so quickly, it is likely because German workers are highly productive: whereas many American companies are currently downsizing because they simply need less workers (re: blue collar jobs), German employers don't really have much higher to go in terms of productivity or efficiency. Of course, on average American workers are more productive, but certain industries certainly have not been.

[David Boundy]

Another important factor is the pre-crash deficit baseline -- Germany had been managing its deficits, the U.S. (at least post-Clinton) was managing tax rates, let deficits fall where they may. That left the U.S. economy with a lot less resiliency, lots less low-cost reserve fiscal capacity to tap into.

[MAV]

Professor Becker, it's very easy to "believe" it's due to "proposed anti-business legislation" But like what exactly? The health care bill passed, so it's not proposed, that's the only one you identify.

Why don't you take the time to marshal some evidence of this (the proposed bills and data tending to indicate that they are causative of economic weakness, rather than factors like a lack of demand) instead of asking us to rely on your belief, or vague allusions to "rhetoric" and "bias"? I mean if I was arguing the contra, I could point to a bevy of statistics (e.g. consumer confidence surveys and the like) tending to show the opposite.

[Macroreal]

On point that was not discussed here with regards to the US is whether the negative homeowner's equity has reduced the labor mobility. As a large share of the homeowner are still burdened by negative equity from their homes they cannot act in a flexible way as it was typical for the US labor market in the past but are stuck in their houses. An other factor is also that in Germany the financial sector was not so dominant as in the US and the structural adjusments in Germany may be delayed due to the still high share of government supported financial institutions. So probably the german numbers are also overstating the situation.

[mark wilson]

These comments betray an academic without significant experience in managing a for-profit company. While I certainly respect Prof. Becker's academic achievements, in my experience companies do not make employment decisions on macroeconomic factors such as uncertainty about the ramifications of new legislation. Businesses hire workers if they need them and if they have good reason to predict increased profits from the hire in light of their current business situation. Mundane, practical issues related to customers, prices of materials and the like are much more pressing on the minds of the typical business person than the latest legislation out of Washington. I would think that Judge Posner too would be skeptical of grand theories to explain human behavior.

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[Gordon Longhouse]

The most striking difference between countries such as Germany, Canada and Australia that more or less sailed through the recession and the US, UK, and the PIIGs that didn't, is that during times of prosperity the former paid off debt while the latter incurred more of it. Worse than incurring debt, is having nothing lasting to show for it.
Now that we are in a recession and borrowing capacity is needed/useful, it is almost entirely absent. Becker and Posner ascribe continuing unemployment to "uncertainty" and anti-business regulation. Might I suggest that a better reason maybe that the customers of a domestically oriented business economy are still crawling out of debt and simply have no money to spend.
Stimulus might have been useful as a bridge between the time of the crash and the recommencement of genuine economic activity as it was in Germany etc. but it is no substitute for genuine economic activity as stimulus has to end sooner or later.
Genuine economic activity will not recommence until losses have been realised and funded (not hidden) and the balance sheet of business and households has been strengthened. It is this strength that will lead to confidence.
I suspect that a lengthy process of readjustment lies ahead for the US and much of Europe before prosperity for those countries can resume. It will not start until the real problems are confronted and not avoided.

[Don the libertarian Democrat]

From Spiegel Online:

http://www.spiegel.de/international/business/0,1518,707231,00.html

7/19/2010 12:00 AM
A Keynesian Success Story
Germany's New Economic Miracle

During the worst of the global financial meltdown, Berlin pumped tens of billions of euros into the economy and spent hundreds of billions propping up German banks. Now, the country is reaping the benefits as Germany is once again Europe's economic motor. By SPIEGEL Staff

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[Pandora Bracelet]

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[Are you an Austrian yet...?]

This is the most anti-private sector administration this country has ever had. You can't hate and punish private enterprise and then expect it to grow.

Bailing out bankrupt States, giving money to special interest/unions, and extending jobless beneifts is not an economic policy. These policies make recessions worse.

Obama won't receive one non-Union vote in 2012 because his policies are idiotic and there is no way to hide from them now. He'll only get the Union vote because he bought them all with our money. Obama, Rengal and Waters are nothing more than organized crime gangsters looting our treasury.

[SparrowD]

"...won't receive one non-Union vote in 2012..."

That's why he's rushing to put at least 50% of the population into Unions.

The vicious cycle now has its grip on America. Decline will be swift. Things move fast in the 21st century... and accelerating.

[muondo]

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[集装袋]

Professor, you're great, but seems to feel the financial crisis.

[Jim]

With half of the population on the dole and the other half figuring out how to live on less income and less effort, the future is not bright. The American culture is collapsing leading to economic and political collapse. Public service unions, Obama, a treasury secretary who can't pay his own taxes, a declining dollar, deflation, unemployment, failing education are all symptoms, not causes.

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[mobile crusher]

Very good, professor.I agree you

[MS.Smit]

How convenient of you to never mention the fact that Germany has numerous highly stimulative programs already built into their economy, such as better unemployment benefits and public health care.

It is also very convenient that you don't mention the fact that Germany's GDP has not actually recovered well. Germany's % decline in GDP was more rapid and severe than that of the United States - they're still behind us if you look at the % change in GDP since 2007.

[IM]

Either you don't know that much about Germany or you leave out the facts that don't fit into your ideology.
Others already mentioned Kurzarbeit. Labour hoarding by the employers, wiht the assistance of the unions - who are strongest in industry - and financed by the government. At the apex of the crisis, 1.5 million people were on Kurzarbeit. No wonder the unemployment numbers didn't budge.
So a triumph of the old german model of government -employer - employee cooperation.

Another thing: Since germany is liek the uS a federal system, a lot of public spending is one by the states. But our states don't have to balance their budgets, so they kept up their spending during the recession. Net effect: a bigger fiscal expansion in Germany.

[Joe]

"I continue to believe that the biggest factor in the sluggish employment recovery of the US is that many of the actual new and proposed anti-business legislation, as well as the large fiscal deficits, made businessmen and investors cautious about taking on new workers."

Polls show that the largest factor is a lack of sales, poor demand. Concern over new regulations is no higher than usual. Look up the most recent NFIB Small Business and Economic Trends report.

http://www.nfib.com/research-foundation