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Monday, Aug. 1, 2005

Germany and Japan: parallels in reform

Industrial world's weakling won't let an election derail its plans, economist says


Staff writer

Japan and Germany can learn from each other as two major industrialized economies that have faced similar structural problems since the 1990s and are now trying to overcome them with reforms, a leading German economic scholar told a recent symposium in Tokyo.

News photo
Peter Bofinger (center) discusses the prospects for the German economy during a July 21 symposium at Keidanren Kaikan while copanelists Ralf Wilde (left) and Atsushi Mizuno listen.

While there is a strong possibility of a change in government after the Sept. 18 parliamentary election, Germany is on the right track to implement reforms irrespective of the outcome, according to Peter Bofinger, professor of economics at the University of Wuerzburg and a member of the Council of Economic Advisers to the German government.

Bofinger was speaking at the symposium "Prospect of German economy -- its positioning in enlarged European Union and implication to Japan," jointly organized by the Keizai Koho Center and the German Embassy at Keidanren Kaikan on July 21.

The event was held just before German President Horst Koehler dissolved Parliament and paved the way for an election. German Chancellor Gerhard Schroeder has been pushing for a general election a year ahead of schedule in order to win a new mandate for his reform measures, but media polls suggest the opposition conservatives, led by Angela Merkel, leader of the Christian Democratic Union, will likely win the election and end the seven-year rule of Schroeder's Social Democratic Party.

Bofinger said he is confident reforms will continue in Germany under either an SPD or CDU government because both parties have endorsed the structural reforms Schroeder launched under the catchphrase "Agenda 2010."

'It's the economy, stupid'

Schroeder's reforms, which focus on increased labor market flexibility, corporate tax cuts, and pension and health care reforms -- have made Germany more attractive to foreign investors. But they have not yet boosted the nation's sluggish economy or increased employment, Bofinger noted.

The council's most recent annual report, "Success abroad, challenges at home," released in November, "reflects the situation that we're facing: Germany is extremely successful in international markets, but it is confronted with deep-seated and sustained problems in the internal economy," he said.

As he assessed the economic developments that have occurred in the industrialized world since the 1990s, Bofinger found that there are a number of similarities between Germany and Japan.

While both Japan and Germany were growing faster than the United States in the late 1980s, their growth has slowed greatly since the 1990s, and the two have been perhaps the slowest-growing members of the Organization for Economic Cooperation and Development over the last 10 to 15 years, the scholar said.

Jobs and 'low blood pressure'

Unemployment rose in both countries, although there have been signs of improvement in Japan recently. In Germany, the number of jobless people topped the "psychologically difficult" barrier of 5 million, which was the primary reason behind the SPD's losses in recent regional elections, he said.

Both countries also have been suffering from "low blood pressure" in their economic systems -- deflation in Japan and very low inflation in Germany, he added.

Bofinger noted how the problem of rising public debt is taken much more seriously in Germany than in Japan, even though the government debt-to-GDP ratio is much higher in Japan at 160 percent, compared with 65 percent in Germany.

Unlike many other OECD member states, the private sectors of both Germany and Japan are saving more and less willing to incur debt, a phenomenon Bofinger linked to the common demographic challenge facing the two countries -- rapidly aging populations.

Reunification ills

A major portion of Germany's problems, of course, have their roots in the 1990 reunification, Bofinger said, noting that merging West Germany's population of 61 million with East Germany's 16 million meant "one-fifth of Germany has become a transition economy."

Because the massive undertaking had never been attempted before, the transition "took much more time and became much more costly than expected" he said.

"Unification came close to a very difficult heart surgery . . . Unfortunately, the doctors in charge had no experience with these kinds of operations," Bofinger said.

Wages in East Germany rapidly approached West German levels, even though productivity remained much lower, contributing to the rise in unemployment, he said. Extending the same social security programs to the former East Germans -- despite the low productivity there -- also proved costly, he added.

To date, annual fund transfers from the former West to the former East continue to the tune of about 4 percent of Germany's gross domestic product -- which is roughly the equivalent of its budget deficit, the professor noted.

Unification also led to a construction boom in the early 1990s as the government subsidized housing investment, but the boom turned into a bust in a few years and created serious problems in the banking system -- just as the collapse of Japan's asset-inflated property bubble of the late 1980s produced the nonperforming loan woes its banks dreaded dealing with in the subsequent decade, he pointed out.

Wage woes deflated demand

The export industries of both Germany and Japan were hit by the appreciation of their currencies in the first half of the 1990s, and they regained their competitiveness only after pronounced wage moderations, Bofinger said. Wages rose very little in Germany, but Japan went through an outright fall in nominal wages -- a phenomenon that went unseen in most of the other OECD countries during that period, he added.

This marginal or negative wage growth led to low inflation or deflation, and growth in both Germany and Japan over the past decade was "very much driven by foreign balance contribution and very little by domestic demand," unlike the many other OECD members who enjoyed self-sustained growth based on internal demand, Bofinger noted.

"I think it is very impressive to see how our two countries are similar and how much they differ from the rest of the OECD," the professor said.

Bofinger also pointed to some parallels in the reforms introduced by Germany and Japan to respond to these challenges, including the revamping of public pension systems to deal with the rise in their elderly populations. However, signs of improvement in consumer sentiment are less visible in Germany than in Japan, he reckoned.

One major feature of the German reforms is greater flexibility in the labor market. While the measure was rated highly in a recent OECD survey, changes in labor statistics aimed at more accurately reflecting reality have resulted in higher unemployment rates, Bofinger said.

But overall, these reforms let Germany reduce the government's share of economic activity faster than other European countries, he said. The ratio of government expenditures in relation to GDP fell by about 2 percentage points from the 1996-2000 average to 46.7 percent in 2005, while the share of government revenue to GDP fell by almost 4 percentage points over the same period, he said.

Call for confidence

As Germany braces for the September election, the main approach of Schroeder's SPD is to continue with the moderate pace of reforms seen over the last few years, while Merkel's CDU is advocating an increase in the value-added tax to reduce social security contributions to GDP and make German labor more competitive, according to Bofinger.

All in all, however, the programs of the two parties "do not differ in substance," and one can expect that German economic policy will not undergo substantial changes, Bofinger said.

"So I would say whatever the elections will bring, Germany is on the right track," the professor said. "What is lacking so far is that all these reforms and everything that was made have not yet changed the confidence of consumers in Germany . . . but I hope the elections will change that."

The symposium was attended by German Ambassador to Japan Henrik Schmiegelow, Ralf Wilde, president and CEO of TUV Rheinland Group Asia, Atsushi Mizuno, a member of the Bank of Japan's Policy Board, and Risaburo Nezu, senior managing director of Fujitsu Research Institute.



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