Impact of Minimum Wage on Germanys Economy
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Germany is debating the introduction of a minimum wage. The country is a
special case because it is a hybrid capitalist-socialist economy and it has the
Mittelstand (family-controlled small and medium enterprises). Labor mobility is
limited (the labor market is not ideal or frictionless).
These may be the effects of a minimum wage on the German economy:
1. By "competing" with generous unemployment benefits, the minimum wage may
create incentives to work. This will decrease the cost of various welfare
programs. The surge of new entrants will, at least at first, INCREASE the
2. The minimum wage may stimulate consumption (studies show that every
additional euro earned by low-wage workers is spent on consumption, not saved).
This plus a general increase in the price level (to offset increased labor
costs) will have inflationary effects.
3. It may enhance productivity (employers will likely insist on increased
productivity to offset increased costs) and cause entrepreneurs to move out of
labor-intensive and into capital-intensive industries and sectors.
4. The minimum wage may encourage technological innovation (to substitute for
expensive labor inputs). This, in addition to a general reduction in demand for
low-skilled, low-wage workers will again increase unemployment.
5. Finally, the minimum wage may cause German manufacturers and service
providers to offshore activities and manufacturing to Central and Eastern Europe
or even Asia. Anything from car manufacturing and pharmaceuticals to back office
operations (credit card processing, customer relations managements, flight
ticketing, insurance claims processing) can move from the hinterland of Germany
to its European "colonies" or to Asia.
According to a survey of German executives by the influential Ifo think tank,
German business confidence rose in January 2003 for the first time in eight
months - albeit imperceptibly, from 87.3 to 87.4. A poll conducted by ZEW,
another brain trust, confirmed these findings. On past form, though, this
confidence level heralds a contraction of 5-6 percent in industrial production.
This is consistent with other dismal figures: negligible growth, stiflingly
high real interest rates imposed by the European Central Bank, an
export-discouraging strong euro and a disheartening surge in unemployment to
more than 10 percent. German woes are compounded by a global recession, the
evaporation of entire industries (such as telecoms) and a sharp, universal
decline in investments.
The main victims are the Mittelstand - the 1.3-3.2 (depending on the
definition) million mostly family-owned German small to medium enterprises (SMEs).
Of every 1000 German businesses, 997 are Mittelstand by one liberal definition.
The real figure is closer to one third. Strict criteria reduce it to one in
These differences of opinion reflect the fuzziness of the concept which has
more to do with the style of ownership and management and with a unique
historic-cultural background than with objective, economic yardsticks.
The Mittelstanders form the backbone and trusty barometer of the German
economy. They engage close to 22 million workers and apprentices as well as well
over 3 million "self employed" (owner-employees) - 70 percent of Germany's total
active workforce. More than two fifths of all commercial turnover in the country
are generated by them as well as half the value added and one third of all
The investment requirements of Mittelstand firms total $20 billion annually.
But access to capital is narrowing. Tottering local banks are risk averse, the
capital markets are lethargic, private investors are scared and scarce. The
Basle 2 capital adequacy requirements will considerably increase the cost of
bank loans to risky borrowers, as are most Mittelstand firms.
According to a survey by Kreditanstalt für Wiederaufbau, the German
state-owned development bank, one third of all companies found access to bank
credits restricted in 2002. In the 12 months to March 2002, German banks
approved 7 percent fewer new credits. Listed banks reduced lending by a
debilitating one sixth.
According to The Economist, lending to Handwerk (craft) companies declined by
half between 1993-2003. Public sector savings banks, hitherto the main source of
Mittelstand financing, are hobbled by an increasingly intrusive European
Commission. The Neuer Markt, touted as Germany's answer to NASDAQ, slumped by
staggering 96 percent and was merged out of existence.
The family is not what it used to be. Less than 40 percent of Mittelstand
businesses are handed down the generations nowadays. Many are forced to
introduce pesky outside investors and directors, or hired management. The banks
are far more inquisitive than they used to be. A traditional long-term, epochal,
business horizon gives ground to a quasi-American focus on the tyranny of the
bottom line. Capital spending, product development and job security all suffer.
Founders are often to blame, unable as most are to calmly contemplate their
own death, or retirement and prepare a plan for orderly succession. It is at
these junctions of regime change that most business failures occur, according to
Sir Adrian Cadbury, author of "Family Firms and their Governance".
According to Creditreform, quoted by The Economist, a record 37,700 companies
went under in 2002. The Financial Times puts the figure at 45,000. And 2003
witness another bumper crop. The figures, according to the Institut für
Mittelstandsforschung in Bonn, are even more harrowing. In 2001, 386,000
startups were liquidated and 455,000 formed to yield 69,000 new firms.
New startup formation is at a low ebb. In 1991, net creations amounted to
223,000, in 1995 - 121,000, in 1998 - 100,000. The picture is especially grim in
the east. About 129,000 net new startups sprouted there in 1991. But the
dilapidated east succeeded to spawn only 6000 a decade later with its bloated
and venal construction sector all but wiped out. Again, 2002 was only marginally
Half-hearted measures declared by the fragile coalition government on January
6, 2003 - grandiosely titled the "Mittelstand Offensive" - are unlikely to
reverse the tide of red ink. Less red tape, more generous financial support,
simplified accounting and a fusion of the country's cumbersome development banks
will do little to help the flood ravaged east, for instance, where crumbling
domestic demand cripples local entrepreneurship.
Eastern businessmen sorely lack management experience and skills. Their
networks of customers and suppliers are thin on the ground. Most of them are
single-product outfits. Successes are few and far between and usually involve
foreign equity-holders. Luckily, the labor market in the east is more flexible
than its ossified and bureaucracy-laden western counterpart. Hourly labor costs
- wages plus inanely vertiginous and generous social benefits - are also
substantially lower in the eastern Lander.
An arthritic and worker-friendly regulatory framework and a pro-big business
tax regime have, indeed, burdened the Mittelstand. Still, if anything, Germany's
labor market has been liberalized under Chancellor Schroeder's governments and
tax rates went down across the board. One must look elsewhere for the causes of
the inexorable deterioration of the country's SMEs.
It is remarkable that the decline of the Mittelstand coincides with an
unprecedented surge in small to medium scale entrepreneurship in both developed
and developing countries. It would seem that Germany simply spectacularly
pioneered what has become, decades later, an economic fad.
Indeed, it is Germany's overwhelming success - its post-war industrial
miracle - that harbored the seeds of its decline and fall. Sated, rich people
make bad risk-taking entrepreneurs. Germany's unification was its last attempt
at rejuvenation. It failed because the west chose to smother the east with an
unrealistically priced Deutschmark, a tangle of rules and regulations, an
artificial construction bubble and a forced liquidation of its industrial base.
If it ain't broke, don't fix it, goes German folk wisdom. On the surface,
everything functions impeccably: German infrastructure is gleaming, its
healthcare efficient, its environment pure, its welfare unsurpassed. Why tinker
with success? - wonders the average citizen of this regional economic
powerhouse. Only lately did a few brave souls admit that the miracle has been
consumed and that Germany, unreformed, may be facing a Japanese decade.
Germany's second attempt at revitalization is unfolding outside its borders.
The enlargement of the European Union to incorporate countries in central and
east Europe is largely a German project. Cheap labor, abundant raw materials,
hungry, growing consumer markets in the new members - promise to resuscitate the
German industrial sector.
Big German firms have taken note of this repossessed hinterland and moved
decisively - but not so the Mittelstand.
Preoccupied by their multidimensional crisis, they failed to colonize the
east. Battered by cost pressures, better-informed customers, aggressive
international competition, dizzying and costly technological changes, spiraling
needs for investment in R&D, vocational training and marketing - the Mittelstand
companies are punch-drunk and more xenophobic and self-destructively
"independent" than ever.
One would be hard pressed to find a substantial Mittelstand representation in
the German drive to diversify abroad either by establishing a presence in major
export markets, or by sourcing from cheaper countries. As the Center for
Advanced Studies at Cardiff University notes, Mittelstanders rarely out-source
to key suppliers, maintain open-book accounting, engage in simultaneous
engineering, sign long-term contracts, or reduce the number of direct suppliers
as part of implementing a lean production strategy.
Many SMEs function as family employment agencies rather than as properly
governed businesses. From hubs of innovation and early adoption of bleeding edge
technologies - the Mittelstanders have lately become the bastion of paralytic
conservatism. Most of them support self-interested liberalization and
deregulation. But few would know what to do with these poisoned chalices, having
become far less competitive than they used to be in the 1970s.
So, is the Mittelstand sector doomed?
Not according to a report published in 2001 by the Institute for Development
and Peace at the Gerhard-Mercator University in Duisburg. The authors believe
that, despite all the shortcomings of the Mittelstand business model, it could
serve as a blueprint for the countries of Latin America and other developing
The Mittelstand have survived largely intact wars and devastation, division
and unification. There is no reason why they should not outlive this second
round of globalization - they did marvelously in the first round, a century ago.
But the government must recognize the Mittelstand's contribution to the economy
and reward these struggling firms with a tax, financing and regulatory
environment conducive to job creation, innovation, ownership continuity and
The reason for hope is that Germany is finally waking up. Universities offer
courses in family-orientated management. Offline and online exchanges - such as
EuroLink - connect German SMEs to willing private equity investors, strategic
partners and fund managers. Small business service centers and one stop shops
An army of consulting and trading firms proffer everything from management
skills to networks of contacts. Others peddler seminars, Web design and Internet
literacy syllabi. Software companies like SAP, IBM and Sybase maintain special
small business departments. Think tanks and scholarly institutes devote
increasing resources to the SME phenomenon. There is even an Oscar award for
Initiatives spring in the most unlikely places. DG Bank teamed up with the
German daily "Die Zeit" to "promote small businesses who have innovative ideas".
Mittelstand trade fairs (for instance in Nuremberg last year) are well-attended.
Venture capitalists, portfolio managers and headhunters monitor developments
The Business Angels Network of Germany (BOUND) is a group of individual
investors who also contribute time and management know-how to fledgling
technology startups. Lobbying and advocacy groups, specialty publications,
public relations firms - all cater to the needs of German SMEs.
It looks less like a funeral than a resurrection.
About the Author
Sam Vaknin is the author of "Malignant Self Love - Narcissism Revisited" and
"After the Rain - How the West Lost the East". He is a columnist in "Central
Europe Review", United Press International (UPI) and ebookweb.org and the editor
of mental health and Central East Europe categories in The Open Directory,
Suite101 and searcheurope.com. Until recently, he served as the Economic Advisor
to the Government of Macedonia.
His web site: http://samvak.tripod.com
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Article Published/Sorted/Amended on Scopulus 2007-08-10 22:32:22 in Economic Articles