Share the article
twitter-iconcopy-link-iconprint-icon
share-icon
Western EuropeApril 3 2005

Germany experiences a silent revolution

A lot of the groundwork for a German revival is complete. The news remains bad but then the darkest hour is often just before the dawn. Brian Caplen reports.While the headline news about Germany’s economy remains dire and political battles continue to be fought over reforms and job losses, behind the scenes Europe’s largest economy is showing signs of restoration to at least some of its former glory.
Share the article
twitter-iconcopy-link-iconprint-icon
share-icon

The sea change that has taken place in the structure of the German economy – in competitiveness, in flexibility and in banking and finance – is not immediately visible. This is because many of the positive developments are producing short-run difficulties that overshadow their long-term beneficial impact. In other areas, such as German banking, the industry outwardly appears the same and only a deeper analysis reveals a newer dimension.

As Erich Pohl, chairman of Dresdner Kleinwort Wasserstein in Germany and global co-head of capital markets, puts it, in reference to the German economy: “A year ago the glass was half empty, today it is half full.” Roman Schmidt, head of Commerzbank Securities, says: “While many international newspapers have failed to notice, German corporate restructuring is pretty much complete. The cross-holdings [German companies and banks traditionally held shares in each other] have been disentangled. Germany Inc no longer exists.”

No pain, no gain

The hard-pressed German consumer and wage earner may need some convincing yet. German unemployment hit a post-war high of 5.2 million in February, the outlook for growth in 2005 is a sluggish 1%-1.5% (the IMF’s latest forecast is only 0.8%) and the budget deficit is still busting the EU’s much beleaguered Growth and Stability Pact.

But economists are beginning to recognise that some of these outcomes are because – on the principle of ‘no gain without pain’ – these much needed reforms are working.

Lorenzo Codogno, co-head of European economics at Bank of America in London, entitled his report on the unemployment figures Not as bad as it looks. Roughly 130,000 of the 179,000 rise in unemployment is due to Hartz IV, the government’s labour market reform in January that reclassified welfare recipients, who are able to work, as unemployed. The Hartz reforms have been a major step forward in making Germany’s labour market more flexible. The high unemployment figures indicate that the problem is now being faced up to and improvements in numbers employed are expected from here on.

Meanwhile in the private sector, Germany’s labour unions are showing themselves to be increasingly open to proposals for longer hours and more flexible working and their response to job losses is less confrontational.

Stephan Theissing, director of corporate finance at Munich-based Allianz Group, says: “There has been a big psychological change in Germany, people now believe in the reform process. There has been a huge silent revolution. Tax, social security and unemployment reforms have all been introduced without the social outcry that might have been expected.”

Political agenda

All the same, Germany’s chancellor Gerhard Schröder may cool off on the pace of his Agenda 2010 reforms (although some critics complain the pace is already snail-like) with an election approaching in 2006. The fortunes of the ruling Social Democratic Party (SDP) had recovered since they dropped to a 20% rating in polls last year, and Mr Schröder gained in stature for standing firm on key reform issues. But the high unemployment figures, together with a visa scandal, have made the SDP nervous about its prospects in May elections in North Rhine-Westphalia. This is not the right time politically to be taking new risks.

Pension and healthcare costs have been reduced yet there is still a long way to go to get Germany’s finances back into recognisable order. Carrying out reforms against a backdrop of slow growth and high unemployment is notably tough. Lack of growth also means a lack of revenues that is compounding budget problems and pushing Germany into a Catch-22 situation.

Brighter prospects

But looking beyond the poor growth outlook, there is a brighter picture. German trade figures released in February showed exports rising by 10% and there are now plentiful stories of company turnarounds on the back of export success.

Despite the problems of euro appreciation and stagnant domestic demand, business confidence is improving and the IFO Business Climate Index rose in January to the highest level in almost 12 months. Companies cite higher productivity, wage moderation, lower non-labour costs, healthy external demand and labour market reforms as reasons for their bullishness.

“Efficiency gains made in Germany in the past couple of years are much higher than in France or Italy. We are still export champions and confidence is returning, global reserves are moving into the euro, companies’ hedging strategies are improving, the unions have declined in strength and companies are able to strike better deals with employees,” says Mr Pohl.

Allianz's Mr Theissing says: “A lot more progress has been made than most foreign commentators’ realise. Germany is seen as a dinosaur with a demographic problem. In fact, there is a lot of optimism, especially in the insurance sector where we have mastered the bottom of the cycle and are now earning record profits.”

Detecting the difference

It appears that business and investors have started to appreciate the changes but, as the improvements have not yet filtered through to standard economic measurers – growth and employment – consumers and politicians have been slower to catch on. Witness the outcry when Deutsche Bank announced it was cutting 6400 jobs worldwide after reporting record profits.

Change in Germany is also difficult to detect because some of it has been achieved without obvious alterations to the system. Take the banking structure, for example, where consolidation has been slow and the old three-pillar system – private sector commercial and mortgage banks; public sector savings banks and Landesbanken; and co-operative banks – remains intact.

Analysts are frequently highly damning of the German banking system. “Despite staging substantial improvements over the past two years, the German banking system remains the most vulnerable system in western Europe today,” says a recent Standard & Poor’s banking industry report. “Dogged by economic stagnation between 2001 and 2003, tentative economic reforms, overcapacities, high provisioning needs and meagre margins, Germany’s banking industry is struggling to prevent a further widening of the gap to international peers.”

A Fitch Ratings report states: “The rigid structure of the German banking system is now being questioned more often than before but little actual progress has been made. In particular, there appears to be little real appetite, at least among the political establishment, to dismantle Germany’s three-pillar banking system, which effectively leaves 45% of banking system assets under state control with a further 12% controlled by the co-operative sector.”

While insignificant in monetary terms, a proposal by the mayor of Stralsund, on the German Baltic Sea coast, to sell the municipality’s savings bank would have been hugely symbolic. Unfortunately, the regional authorities prevented the sale.

Was this article helpful?

Thank you for your feedback!

Read more about:  Western Europe , Germany