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News : EU Economy Last Updated: Nov 1, 2010 - 12:08:40 AM

Germany's jobs miracle; For first time since 1970s unemployment falls below its level before previous recession
By Michael Hennigan, Founder and Editor of Finfacts
Oct 29, 2010 - 3:31:39 AM

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Germany's jobs miracle was confirmed on Thursday when it was reported that unemployment fell below 3m in October for the first time since 1992. The unemployment rate in Germany stayed almost constant during the Great Recession and  for the first time since the 1970s, unemployment fell below its level before the previous recession.

Unemployment had soared in Germany after unification between east and west in 1990, and hit a peak of more than 5m in 2005.

How has this German “miracle” been achieved?

A paper by Sabine Klinger and Thomas Rothe at the Institute for Employment Research says the German labour market had suffered from high and often persistent unemployment for many years. In 1997, unemployment was at its highest level since reunification at 11.4 percent according to national statistics (coming from 7.7 percent in 1992). Between January 1998 and June 2009, about 1.45 million people were long-term unemployed on average each month. This counts for nearly one third of the average monthly stock of 3.96 million unemployed. At its peak in 2004, long-term unemployment had risen to 1.8 million.

The government of Gerhard Schröder established a commission in February 2002 to review the labour market and welfare systems and its work resulted in four laws concerning “modern services at the labour market”, named after the commission’s chairperson as the Hartz Reforms.

The Hartz Reforms came into force in four parts between 2003 and 2005. During these years, the German economy rather stagnated. However, just moderate wage increases were bargained between employers and labour unions and the international competitiveness of German products further increased. Exports and investment then boosted the economy, and the upswing reached the labour market in mid-2006. Within three years  -- from 2006 to 2008 - - unemployment decreased by one third, long-term unemployment even by 40 percent.

Prof. Hans-Werner Sinn of the University of Munich and president of the Ifo institute in his 2003 book: Ist Deutschland noch zu retten? (Can Germany be Saved?), had a summary on the book's jacket: "Taxes keep rising, the pension and health insurance systems are ailing. More and more companies are going bankrupt or are leaving the country. Unemployment has reached alarming levels. Germany is outperformed by its neighbours. It’s growth rates are in the cellar, and it can’t keep up with Austria, the Netherlands, Britain or France. Germany has become the sick man of Europe."

The Hartz labour and welfare reforms enabled companies to react more nimbly in adjusting working hours when demand slumps and thus to secure employment. The opening clauses agreed in the collective bargaining process were used to adjust working hours and wages to match order levels during the Great Recession.

The fact that the companies could respond so flexibly to the collapse in demand and nearly maintain their headcounts during the Great Recession was not only attributable to the more flexible labour market structures but above all to their financial health. An analysis by Germany‘s Bundesbank says that in comparison with past recessions, the companies entered the downswing with higher cash flows, better profitability and noticeably more robust financial health.

Jens Boysen-Hogrefe and Dominik Groll from the Kiel Institute for the World Economy (IfW) argue in their recent study on the German labour market miracle which has been published in the October issue of the National Institute Economic Review, that short-time work itself provides an insufficient explanation for the good state of the German labour market. Short-time work can only account for roughly one third of the working time reduction. Furthermore, short-time work is not a German singularity that was explicitly tailored for this recession. Short-time work had been applied in previous recessions and it is also common in many other industrialised countries. Relative to total employment the number of short-time workers in Germany was not exceptionally high compared to other recessions and compared to some other industrialised countries during the recent recession.

The authors argue that the most important ingredient of the labour market’s success was the unprecedented real wage moderation prior to the Great Recession. This stimulated labour demand enormously. Consequently, unemployment declined significantly. For the first time since the 1970s, unemployment fell below its level before the previous recession. The far-reaching labour market reforms between 2003 and 2005 are a very important factor in explaining the reduction in unemployment. By increasing the incentives to take up employment and by deregulating certain segments of the labour market, the labour market reforms put downward pressure on wages and reduced the structural unemployment rate. When Germany faced the collapse of foreign demand with the onset of the Great Recession, the transition to the new level had not been completed. This ongoing transition to the new level dampened the negative effects of the recession for the labour market considerably.

Additionally, the amount of labour hoarding by firms was unprecedented. On the one hand, this is because firms were able to hoard labour to a greater extent due to the wage moderation itself and an increased flexibility in adjusting working time. On the other hand, firms were more willing to hoard labour because they have been increasingly suffering from a shortage of professional workers and because the recession was perceived as truly exogenous, which stands in contrast to many other countries where 'erroneous trends and exaggerations' (e.g. in construction or in real estate) became evident.

The impact of labour market reforms and economic performance on the matching of short-term and long-term unemployed (pdf) -- Sabine Klinger and Thomas Rothe, the Institute for Employment Research

The German labour market miracle (requires subscription) - - Jens Boysen-Hogrefe and Dominik Groll, Kiel Institute for the World Economy (IfW)

Finfacts article, Apr 2010: Germany’s jobs miracle: Short-time work, flexible contracts and healthy companies; Unemployment rose only 200,000 from October 2008 low - - access to Deutsche Bank Research report.


Otmar Issing, former ECB and Bundesbank chief economist recalls how he warned against the creation of a currency union between Eastern and Western Germany at the time of unification. “I must confess that we were totally wrong on the political fundament. We could not imagine early February 1990 that in October, we would have a united country.”:

“If Europe state finances get out of control, you may lose your state,” Erwin Grandinger, political analyst at EPM Financial Services Group Berlin, told CNBC, while comparing the parallels of the state of the European economies to East and West Germany 20 years ago:

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