Quotes of the Day
In the past year, as the world economy has plunged into recession, governments have pledged to spend as much as $5 trillion of taxpayers' money to ward off a prolonged slump. For the most part, these massive programs are based on little more than theory: nobody advocating them has experienced a downturn as dramatic as this one. But Dagmar Szabados has seen such spending before — she knows what it's like to be on the receiving end of a gigantic fiscal infusion. Szabados, a chemist by training, is the mayor of Halle, a mid-sized town in the middle of what used to be the German Democratic Republic (GDR), the formerly communist eastern part of Germany. Since the Berlin Wall fell, the old GDR has been showered with money. Overall, some $2 trillion has been pumped in — the equivalent of about 4% of Germany's economic output every year.
The injection of demand into the old GDR, of course, took place in a very different environment from today's. Its key purpose was as much political as economic: to create a reunited Germany, with shared values, from the two states that were the legacy of World War II. But as stimulus plans take hold across the world, policymakers would like to know precisely what such largesse can buy. Because of the slump in world trade, and hence in demand for its exports, Germany itself is facing a tremendous slowdown. The government now predicts that its economy will contract by 6% this year, much more than the economies of the U.S. or Britain, and on a par with the baleful prospect for that other exporting powerhouse, Japan. The government of Chancellor Angela Merkel is pumping $108 billion into the economy, but after an intense debate it has resisted international pressure to do more, saying it wanted to evaluate existing plans before adding new ones. But it isn't just officials in Berlin who might spend time in Halle seeing what an injection of money can and can't do to a local economy. Governments from the U.S. to China — anyone who believes that opening the fiscal spigot can stave off disaster, and especially those who think that public spending can polish up rustbelt cities like Detroit or Harbin — would be advised to take some east German lessons. (See pictures of Detroit's decline.)
Spending Big
The good news from Germany is that lots of money buys lots of stuff. Halle today has a new network of fast highways and rail tracks, a renovated historic city center, ultramodern water-treatment plants, a technology center on the site of a former Soviet army base just outside town, and — most needed of all — thousands of solid new jobs in a rebuilt industrial sector that has become home to U.S. firms such as computer maker Dell and Dow Chemical. Mayor Szabados waves to a corner of her office. Leaning up against the wall there are two dozen new shovels, several big trowels and an oversized watering can — all souvenirs from groundbreaking ceremonies around Halle since she took office in 1990, first as deputy mayor and, since 2007, as mayor. "Everything was turned upside down," she recalls. "It was chaos, especially at the beginning, but creative chaos."
Szabados is quick to acknowledge, however, that not all the money has been well spent. There was the housing development built in a hurry in a wooded area south of town that now stands largely empty. "If we'd thought about it properly, we wouldn't have done it," she admits. Then there are the government-sponsored job-creation programs that failed to live up to their name, and the startups that quickly shut down again because they depended more on government subsidies than on a smart business plan. (See pictures of the global financial crisis.)
Halle may be a lot more prosperous than it was 20 years ago, but it's still far from being a happy place. Its population has shrunk dramatically, falling by more than one-quarter to 230,000 since 1990 as young people have left to find jobs elsewhere. Despite the exodus, and a birthrate that has dwindled to almost nothing, the town still has an unemployment rate of about 14%, double that in the old West Germany. And as a new economic crisis strikes — this time a global one — Halle isn't immune. Its economy has crashed in the past six months. Across the region — but especially in places like the town of Eisenach, where a new auto industry has been built up over the past few years — the latest downturn is biting, though local officials stress that at least their position is better now than it was. "We're certainly in a crisis," says Peter Haimann, president of Halle's Chamber of Commerce and Industry, "but we also have much more flexibility to face it."
Money Isn't Everything
In short, Halle has learned that throwing money at an economic meltdown isn't a cure-all. To be sure, some towns in the old GDR have done well. In the Saxon heartland, where the local economy had strong roots going back to before World War II, Dresden has turned itself into a world center for semiconductors, Leipzig has attracted automakers including BMW and Porsche, and Jena has successfully built on the reputation of its optical firm, Carl Zeiss. But for the most part, eastern Germany is still far from resembling the "blossoming landscapes" that former Chancellor Helmut Kohl predicted back in 1990. True, living standards have soared thanks to the cash infusions, giving easterners more than 80% of the purchasing power of their western compatriots. But even two decades on, the region remains substantially less productive than its western counterpart. The former GDR has 20% of Germany's population but one-third of its unemployed.
Germany has learned a second lesson; big spending packages don't work if the economic policies underlying them are miscued. In hindsight, eastern Germany's economic wellbeing was sabotaged at the very beginning of the reunification process by the political decision to exchange its currency for West German marks at the rate of one-to-one. Haimann, of the Halle Chamber of Commerce, thinks that was a crucial error. The true value of the old East German mark was just one-fourth or one-fifth of the West German currency, so when it was swapped in 1990 at parity, the competitiveness of the local economy took a nosedive — compounded by a quick doubling of wages in the east following reunification later that same year. "There was a revaluation by a factor of eight. Which industry anywhere could swallow that?" Haimann asks, pointing out that some of Germany's eastern neighbors, including Poland and the Czech Republic, managed to hang on to many more jobs because they kept their currency cheap.
(See pictures of the dangers of printing money in Germany.)
A third lesson, and perhaps the most pertinent, is that spending so much money in such a short time is bound to be wasteful. "Every village wanted to have the same dog kennel," jokes Klaus F. Zimmermann, president of the Berlin-based German Institute for Economic Research (known by its German acronym, DIW). East Germany today has a number of promising industries and state-of-the-art roads and railways, but it also has superfluous airports, oversized water-treatment plants and a collection of heavily subsidized industrial white elephants, all built at the taxpayers' expense. "Floodlit sheep meadows," grumbles Reiner Holznagel, managing director of the German Federation of Taxpayers. "In every district you can find projects that make you shake your head." Among the most egregious: the now-bankrupt firm Cargolifter, which tried to build a modern Zeppelin airship with tens of millions of government dollars. (See pictures of the Top 10 scared traders.)
Given the enormous bill for reunification, such failings have inevitably given rise to a debate in Germany about the policy of propping up the east. In 2004, an informal commission headed by Klaus von Dohnanyi, a former mayor of Hamburg, concluded harshly that eastern Germany was still far from being able to stand on its own two feet. One of the commission's key findings was that industrial policy should have been better coordinated and the money invested in a few promising centers, rather than being showered as if from a watering can across the economic landscape. But the fact remains that when the communist state collapsed, the urgent issue at hand was how to integrate 17 million East Germans into a suddenly reunified country, and quickly. Despite some lingering resentment in both east and west, that work is done. In a line policymakers today might take to heart, Zimmerman of the DIW says that the infusion of cash to the east "wasn't a failure. The problem is that the expectations were too high."
You can see just how high expectations became on a quick tour of the Neustadt residential district on the western edge of Halle. Neustadt is a depressing example of Soviet-style urban planning, with row upon row of gray concrete blocks, built in the 1970s to house some of the 40,000 people who worked at the chemical factories that once dominated the local economy. Firms with names such as Buna and Leuna belched pollutants into Halle's air while churning out products whose quality lagged far behind western examples.
Once the Wall fell, those chemical factories were among the first casualties of reunification. Investors such as Dow, Dell, French oil giant Total and Belgian chemical and pharmaceutical firm Solvay moved in, enticed in large part by the subsidies Germany was offering to companies willing to take the obsolete mammoths off its hands. But welcome as the newcomers were, they quickly shuttered the old plants and hired only a fraction of the workers — about 20% of those who had previously toiled at Buna and Leuna. Unemployment soared as high as 30%. People started to leave Halle to find work elsewhere. Neustadt's population fell from 90,000 in 1990 to about 47,000 in 2007, the last year for which figures are available, and some of those depressing apartment blocks have now been knocked down.
Job Search
Why were so many jobs lost? mainly because Halle's local businesses had been rendered uncompetitive by the currency swap and wage increases. That meant economic growth in the east often relied on direct government support, in the form of infrastructure projects, tax breaks for individual investors, direct transfer payments of social benefits for pensioners and the unemployed, and state subsidies for corporate investments.
There's no doubt this public spending produced some results. The U.S. semiconductor firm AMD, for example, was planning to build a new plant in Ireland. In 1995, however, it switched to the Dresden area — once a high-tech region for the whole Soviet bloc — where it now employs about 2,000 people. Similarly, on the edge of Halle's Neustadt, in a brand-new technology center built on the site of the former Soviet army base, Katja Heppe pulls the claws of a snow crab out of a plastic bag. She's 29, a biotechnology researcher who specializes in synthesizing a polymer from crabs' claws — it's used as an ingredient by pharmaceutical and cosmetics companies. Heppe founded her firm three years ago. Up to 50% of the investment in research and development is subsidized, and Heppe says she came to Halle because there's a supportive network in place to help small startups such as hers.
But not all attempts to woo industry through subsidies work so well. While Dresden has managed to reinvent itself as a micro-electronics "cluster," a similar attempt by the town of Frankfurt an der Oder failed. Around eastern Germany, there are numerous examples of industries without real prospects being kept alive artificially, complains Holznagel of the Taxpayers' Federation, citing tilemaking and leather-treatment plants on the Baltic coast. "The subsidies just prolong the death," he says, "but it comes anyway."
Once Bitten
While Germany has learned the lessons of creative destruction the hard way, the government still believes it has a critical role to play in industry. Just this month, the fate of Opel, the German subsidiary of General Motors, has been at the top of the political agenda. Government ministers are refusing to loan the billions the carmaker says it needs to survive — and even imposing conditions on would-be buyers, which include Fiat. (See the 50 worst cars of all time.)
German skepticism about the utility of big government-spending programs endures, bolstering Merkel's determination to resist international pressure to take more decisive action to counter the economic crisis. Among those arguing forcefully against any new stimulus packages is the Taxpayers' Federation. Holznagel says that in the early 1990s his organization kept to itself doubts about the big spending on reunification — it was politically foolish to do otherwise. But now, he says, "the situation is completely different. The danger is always that money is spent neither appropriately nor efficiently."
That assessment may sound admirably prudent. But Germany is in bad shape. In Halle, they're feeling the pinch, again — even if the situation is (remarkably) not quite as bad as it is in west German regions such as the environs of Stuttgart, where almost half a million people have been put on short-term work since last October as auto and machinery factories have slowed production. The east has been somewhat protected because its firms don't export as much as their west German opposite numbers. An unmistakable streak of eastern stoicism helps, too. "I notice that when I'm in the west, the fear of this economic crisis is much greater than in the east," says Halle's Mayor Dagmar Szabados. "We've been steeled by crisis here." That may be true; but as the state of her town proves, being steeled by a crisis is not the same as rebounding from a slump into prosperity. The rest of the world: take note.
See pictures of the dangers of printing money in Germany.
- PETER GUMBEL
- To reunify the country, Berlin has spent big over the past two decades. Here's what Germany can teach the world about stimulus packages