Germany’s bizarre version of capitalism—where bosses and workers actually cooperate—is winning

The German economy is ascendant.
The German economy is ascendant.
Image: Reuters/Dylan Martinez
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Much of the beauty of capitalism is in its ability to be crafted to suit different cultures, times, and contexts.

For instance, in recent years, “capitalism with Chinese characteristics”—the uneasy partnership of state-run industry, repressed liberties and frenzied entrepreneurialism—has emerged as a fruitful variant.

In the 1980s, the Japanese model, which featured lifetime employment and cross-ownership to shield companies from shareholder pressures, seemed the way to go.

The East Asian model fueled the Tiger economies of the 1990s, and ultimately the Asian financial crisis, by fusing flexible labor markets and low barriers to both trade and capital flows.

And before the global financial crisis, Anglo-American capitalism prevailed, with its low taxes, sharp competition, light-touch regulation and relatively stingy social safety.

There are others. The French strain stresses the need for national champions backed by the state. Sweden’s market system supports generous social spending.

And then of course, there’s the German model. German capitalism traditionally commingled elements that seem impossibly antithetical to outsiders: muscular unions and corporate efficiency; high-cost workers who can compete in global manufacturing; generous unemployment benefits and low levels of unemployment; and a fragmented base of independent small-and-medium manufacturers—the Mittelstand—able to compete on the highest levels of productivity and efficiency.

For its apparent paradoxes, one fact is increasingly clear: German capitalism is winning.

No longer the sick man

While large chunks of Europe slog through some of the worst economic conditions since World War II, things in Germany have seemingly never been better. Unemployment hovers near record lows, as exports clamber to record highs. Deficits, debt, inflation, and interest rates are all miniscule. Consumer sentiment hasn’t been this upbeat since 2001.

Its starring role as the key creditor in the ongoing Greek debt drama highlights Germany’s growing political and economic dominance within Europe. But the crisis has also obscured a fact that would have been unthinkable 20 years ago: Since the global financial crisis, Germany—derided in the late 1990s as the Sick Man of Europe by The Economist—has generated the best economic growth of any big, rich economy.

The IMF estimates Germany’s per capita GDP will grow 1.3% on average, between 2007 and 2016, outpacing rates of 0.8% and 0.7% for the US and Japan, respectively. And Germany’s performance stacks up against fast-growing emerging markets too. Germany recently overtook China as the world’s largest surplus economy. (Germany posted another record trade surplus last year.)

Elsewhere, Germany’s corporate sector is flexing its muscles, too. In Britain, the entry of low-cost German grocery chains Aldi and Lidl are winning over buyers and leaving longtime market leaders such as Safeway and Tesco in disarray. Cash-rich German companies went on a buying spree in 2014, announcing roughly $170 billion in acquisitions, including high profile purchases by Teutonic titans Siemens and Merck. After notching a distribution deal with Walmart to put its Persil detergent on shelves, Germany’s Henkel AG is challenging Procter & Gamble’s Tide, long the dominant high-end US laundry detergent. In the first half of 2015, Volkswagen realized its long-held goal of overtaking Toyota to become the world’s top automaker, by unit sales.

“Germany has a particular formula for economic success and there are historical moments when that formula works well and other moments when it works less well,” said Peter Hall, a Harvard professor of European studies. “This is a historical moment when it works well.”

Often imitated

Germany’s rise is an economic Rorschach test. Observers of all political stripes interpret Germany’s economic strength as vindication of their own particular policy prescriptions. Embattled US manufacturing workers spotlight the central role of trade unions in the German economy at the very same time that right-leaning free-marketeers stress that the percentage of workers who are actually covered by industry-wide union agreements has declined and that unemployment benefits have been cut in recent decades, boosting incentives for work. Others decry what they see as German free-riding on a weaker currency than it really needs. (Because it’s packaged with anemic southern European economies in the euro zone, the euro is far weaker than a German mark would be, giving exports a push.) All are true.

But the success of such measures was never preordained. In the mid-1990s Germany’s economy staggered under the twin weights of high debt and unemployment. Labor costs were the highest in the industrialized world, hamstringing German industry. Unemployment had surged in recently incorporated German Democratic Republic. A slew of labor market reforms, known as the “Hartz reforms,” that came together in the mid-2000s did indeed help to cut labor costs. The fall of the Iron Curtain also opened up eastern Europe as a source of cheap labor, strengthening the hand of employers in negotiations with unions.

As a result, unions were less rigid in their demands. For example, beginning in the 1990s the number of so called “opening clauses”—which effectively allow companies under economic strain to opt out of union contracts—surged. Less than 5% of the industrywide collective bargaining agreements had such clauses in 1995. By 2005, about 75% of all German firms with collective bargaining agreements included opening clauses in such deals.

And they work. Like other large developed economies, Germany suffered a sharp economic contraction in 2009. But job losses were minimized, in part due to programs such as the short-work, or Kurzarbeit, program, in which the government subsidizes shortened workweeks for workers who would otherwise be laid off. During the worst of the recession roughly 1.5 million German workers participated, allowing German manufacturers to keep ties to skilled workers.

In recent years, some countries have tried to copy elements of German capitalism. With youth unemployment near 50%, Spain is looking to boost German-style apprenticeship programs. France is experimenting with measures that allow unionized companies to cut working hours and preserve jobs during downturns. Britain wants to build a Mittelstand of its own. So far, none have transformed these economies. And they likely won’t. German policies function well because they are designed to work in the context of the German economy, where institutions like trade unions and industry associations have proven uniquely effective at coordinating wages and production over time.

“That structure is built up over decades if not centuries,” says Hall, of Harvard. “So countries can’t immediately emulate it.”

Hardly perfect

To be sure, the German system isn’t perfect. Critics argue that what’s increasingly developed is a two-speed economy in which lower-paid service workers exist in a completely different realm from insulated high-skilled workers at exporting giants. Wage inequality has surged in recent years (though it remains nowhere near the peaks of countries such as the US). And while unemployment has fallen to record-low levels, the average German worker has seen very little wage growth over the last two decades.

“Even when times have been good, there’s been almost no wage growth for even skilled German workers,” says Adam Posen, President of the Peterson Institute for International Economics. 

But most importantly, it’s not difficult to envision a cyclical cooling of Germany’s export-driven engine. China—a key buyer of its capital goods—is in the midst of a deepening slowdown, while Germany’s service sector and domestic economy remain far too undersized to help balance a fall-off in exports. Meanwhile, its core customer base within Europe continues to limp through a weak recovery. Germany could spur growth by boosting investment and easing the terms of bailout agreements for countries such as Greece, but shows little appetite for any of the above.

“The Germans are pursuing right now an unbelievable myopic short-term policy,” says Michael Burda, an economics professor at the Humboldt University of Berlin.

It also raises problems for the future of the euro zone, which has bestowed benefits on German via a relatively weak currency. Many argue that it’s the euro, not the tough minded reforms of the last decade, that’s the real source of German success.

“German elite opine that German economic success is a tale of virtue rewarded, and they’re particularly likely to tell you that it’s a tale of virtue rewarded for keeping budget deficits low and keeping wages lower,” says Posen. “The case for that is mixed at best.”