As Germany prepares to elect its next Chancellor, the two main candidates, Gerhard Schroeder and Edmund Stoiber, agree on one thing: unemployment must be reduced. Over the past two decades, high unemployment has transformed Europe in general and Germany in particular into a sociological time bomb. What will the unemployed - especially the long-term unemployed with only dim memories of integration into the world of work - do with themselves and their time? What will happen to confidence in governments that can not solve the problem?
It is easy to forget that little more than 50 years ago, Europe was the world's most violent continent. Europeans spent the previous forty years slaughtering each other on a scale unprecedented in human history. Against this backdrop, Western Europe after 1950 was remarkably peaceful and stable, even taking into account the fall of the French Fourth Republic and the transitions from dictatorship to democracy in Portugal, Spain, and Greece.
The most remarkable transformation of all was that of the Federal Republic of Germany. Anyone familiar with German history since 1800 is still astonished at the enthusiasm with which the nation that emerged from total defeat in 1945 embraced what many in previous generations would have called "unsuitable" Anglo-French political and economic models. Without the peace and stability that this assured in Germany - the largest linguistic nation west of Russia - it is difficult to imagine today's peace and stability in Europe as a whole.
Germany owes its transformation in part to a combination of three factors: a backlog of unexploited technological opportunities to fuel rapid income growth, nearly full employment, and a state that shared the benefits of growth widely through public programs (rather than serving one class or interest as a weapon to concentrate wealth and power). Other factors - the memory of the Nazi catastrophe, the example of life east of the Iron Curtain, the potential threat posed by Stalin and his heirs - also clearly played an important role. But the fact that the system worked for almost everyone was the final buttress holding up the cathedral.
To everyone's relief, political democracy and mixed market economies proved highly resilient against the oil price shocks of the 1970s. Incomes stagnated, but the institutional order endured. And it has also endured the subsequent emergence and persistence of high unemployment. Within the Federal Republic, where unemployment remains near its early-1980s peak, the failure to address the problem was offset by other successes. The early 1990s witnessed the reunification of Germany, and the elimination of even moderate inflation risks. The late 1990s delivered deeper European integration, culminating in European Monetary Union.
In short, lack of progress on reducing unemployment could be excused in the past: Europe faced more urgent problems and opportunities. But what more urgent problem or attractive opportunity exists today? Inflation no longer threatens anyone's savings. Germany is unified. Monetary union has been accomplished. Whoever leads the next German government must tackle unemployment, both for the sake of the economically most vulnerable and to ensure public confidence in the current system.
Unfortunately, whoever wins the election - Schroeder or Stoiber - will be helpless in the medium term to address the problem. Germany's Employment Commission has called for sweeping labor-market and social-welfare reforms, but it will be very difficult for any government to implement them. Without increased private-sector demand, the removal of supply-side restrictions that fuelled high "classical" unemployment will simply result in high "Keynesian" unemployment in the future.
European integration was supposed to take care of this by driving decades of rapid economic growth as companies realize continent-wide economies of scale. So where is this demand-driven growth? The European Central Bank (ECB) seems more interested in keeping interest rates high enough to force insolvent firms into bankruptcy than in promoting higher employment.
With private-sector demand stalling, the Employment Commission wants the government to serve as employer of last resort. But the Maastricht Treaty's Stability and Growth Pact limits fiscal deficits to 3% of GDP - a ceiling that Germany is already hitting. Unless a future government is bold enough to violate the pact with abandon, its only alternative will be to increase taxes, which would merely prolong the very downturn in private-sector demand that has kept unemployment high.
Were it not for the Stability and Growth Pact, a Keynesian spending-led program could provide the demand needed to reduce unemployment. The problem could be solved once and for all if the ECB were willing to risk the following bargain with governments: if you liberalize product markets and make labor markets flexible, we will reduce interest rates and permit higher spending to fulfill the promise of near-full employment. But the ECB and the Stability and Growth Pact being what they are, both German parties are what they are: a sculptor who has promised to carve a marble statue overnight but has lost his chisel.
There may be little cause for immediate worry. The sociological time bomb may simply continue ticking. As Adam Smith put it, "There is a lot of ruin in a nation." But while Western Europe's post-war institutional order has worked almost miraculously well in historical terms, voters have narrower views and focus on more private concerns. They are more likely to judge a party, a regime, or an institutional order by asking, "What have you done for me lately?" With the great tasks of reunification and European integration behind it, future German governments are increasingly likely to be forced to answer, "Not much."
Posted by DeLong at September 01, 2002 04:44 PM
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