Winner of the New Statesman SPERI Prize in Political Economy 2016

Friday 9 March 2012

Anti-Keynesian Germany

                In previous posts I have focused on the problems of Eurozone current account imbalances and misalignments (differences in competitiveness). In theory this problem need not lead to overall recession in the Euro area, if growth and inflation rose significantly in Germany. They will not, as I point out here, in part because of the impact of the familiar zero lower bound constraint on the ability of the ECB to stimulate growth in the Eurozone as a whole. (Although unfortunately we cannot be sure what the ECB would do in the absence of this constraint.). However another factor is attitudes in Germany, which is what this post is about.
                Some of this just reflects national interest in the context of a relatively healthy macroeconomic position. In particular, unemployment is remarkably low. The chart below compares Germany to the OECD as a whole.

Unemployment in Germany and the OECD (%, Source OECD Economic Outlook)
The OECD story is all about the 2008/9 recession, of course. In the case of Germany you would be forgiven for asking – what recession? The reasons for this remarkable performance are not fully understood (see here for example – GDP fell by 2.6 5.1% in 2009), but the upshot is that the pressure from high unemployment felt in other countries is absent in Germany.
                GDP growth was slightly negative in the final quarter of last year, and it looks weak this year (OECD forecast 0.6%), and still not great in 2013 (OECD forecast 1.9%).  So from one point of view we might think there is scope for some (quick) stimulus? But inflation is projected to be only a little below 2%. The OECD think the output gap was negative but slightly less than 1% in 2011, while the German Council of Economic Experts estimate output is more than 1% above potential. In these circumstances the case for stimulus does not look strong.
                This is not the full story. The striking thing about Germany is that there appears to be no discussion of possible stimulus. In other countries the fourth quarter data, the prospects this year, plus uncertainties about growth in the rest of the Eurozone, might be expected to lead to some discussion of the need for some precautionary stimulus. Yet this seems almost completely absent in Germany. Arguably there is more discussion outside Germany than within (see Tyler Cowen vs Paul Krugman here for example).
                As long as I can remember, there has been an aversion to countercyclical fiscal policy within the German economic policy establishment. (Those already irritated by my personal anecdotes can skip the rest of this paragraph.) My first job when I worked in the UK Treasury was forecasting the European economies. It was just after the first oil price shock, and the UK and world were in recession. The Chancellor Dennis Healey wanted to use fiscal policy to stimulate the economy. The Treasury’s Chief Economic Advisor was invited to meet his counterparts in a short trip to Germany, and I was selected as a note taker. I remember this occasion not so much for the hospitality (which was excellent), but because I cut my long hair just before the trip, and therefore stopped looking like (acting like?) a hippy. I think I thought German officialdom might be slightly shocked if I did not. Anyway, I also remember that my senior colleague’s attempts to sell the UK view on fiscal stimulus – both in that context and as a general concept – met with a pretty unfavourable response.
                All this is part of ‘Ordoliberalism’: see this excellent post by Henry Farrell, or this from Dullien and Guérot at the European Council on Foreign Relations (HT Phillip Lane). It is not some simple hangover from the inflation of the Weimar Republic, or the Depression that followed. Christopher Allen suggests that Ordoliberalism was in part a reaction to the abuses of state power by the Nazis. Recall also that while money supply targeting was only fleetingly tried in the UK and US, it was the official policy of the Bundesbank from 1975 until the formation of the Eurozone. (Some argue its actual policy could be better described as ‘flexible monetarism’ and was not that different from inflation targeting).
                The chances of Germany assisting adjustment in the Eurozone by enacting a fiscal stimulus programme are therefore very slim indeed. Equally unfortunate may be the influence this anti-Keynesian view has on policy in the Euro area more generally. However, in the longer term I wonder if Ordoliberalism and Keynesian ideas are really that incompatible. Dullien and Guerot define the central tenet of Ordoliberalism as “governments should regulate markets in such a way that market outcome approximates the theoretical outcome in a perfectly competitive market”. The New Keynesian view of stabilisation policy is to bring the economy as close as possible to the market equilibrium that would prevail if prices were flexible. That does not sound so different.
With flexible exchange rates stabilisation would normally be done by monetary policy (to get to the natural real interest rate), but in a monetary union it has to be done using fiscal policy. I have argued that the antagonism to Keynesian policy in sections of US academia may in part reflect an outdated reaction to old fashioned Keynesian ideas and the ideology that was perceived to go with it. Perhaps the same may be true in Germany. As Henry Farrell notes, after the current recession the German government was eventually persuaded to enact a fiscal stimulus package. [For much more detail on this episode, see the new paper by Farrell and Quiggin available from Crooked Timber.] Although moderate by UK or US standards, it suggests the ideology is not immutable. For the moment, unfortunately, the ideology in its present form continues to do the Eurozone serious damage.


  1. There are Keynesians, even modern ones, in Germany.

    But there has been a development here which must be special to Germany: Scientifically working academic economists have developed a habit of self-referential isolation within an academic community. On the other hand, there are still many professors who do in fact not work as academics but as political advisors.

    The problem is, the first group contains modern Keynesian economists (plus others), while the second group contains only conservatives plus some old-style Keynesians that cannot scientifically defend their own position.

  2. The ECB has never even tried hitting the 0% "lower bound", they have always stayed at 1% or above. They don't want much faster AD growth, Draghi was back to talking about "upside risks" to inflation again this week, predicting 2%+ inflation for the rest of the year.

    And Greece, Spain, Italy and Portugal all tried fighting the ECB with loose fiscal policy. How's that working out? Fiscal stimulus in the Eurozone is not merely "pushing on a string", it's setting the string alight and then discovering it's attached to two tonnes of TNT.

    The only way to get more expansionary monetary policy from the ECB is to push down on the HICP rates. The only way to do that with fiscal policy is structural reforms and/or "austerity". Good luck everybody.

  3. What is underemployment etc in Germany?

  4. Why can'w we have all the facts, first.

    I believe that, if you would look, you will find that Germany's private debt to GDP ratio was lower than everyone else. Since we had a depression caused by excessive private debt, it necessarily follows that Germany would be hurt the least and would recover the quickest

    1. No that would not follow - maybe Germany would be hurt even more because the rest of the world would be indebted in Germany.

  5. In support of not just " the inflation of the Weimar Republic, or the Depression that followed" I note that the Great Depression followed after 6 years of stability (and the post WWI inflation lasted only 5 years with a definite pause in the middle). Only with very distant hindsight do they seem linked. Also, long after the hyperinflation and before Nazism Bruning seemed rather devoutly anti-Keynesian (not that he necessarily knew who Keynes was). There seems to be a problem with cause and effect. It seems more reasonable to say that German anti Keynesianism caused Nazism than the other way around.

    The unemployment figures don't seem so mysterious to me. A natural candidate explanation is the German job sharing program which allows firms to put workers on part-time, pay them part of their former wage, and have the state pay the rest. Such workers are not counted even as partly unemployed. I's sure there is a heated debate about how important this program was. But it does deserve a mention.

    I'd also note that, back in 2009, German policy makers argued that Germany didn't need discretionary stimulus, because their generous social welfare system was a more potent automatic stabilizer than anything in the USA. The figure also implicitly contrasts Germany's failure to stimulate with severe austerity in other OECD countries. The Keynesian guess (your guess for example) is that Germany should be doing rather better than Greece, Ireland, Portugal, Italy, Spain or (Cameron's) UK. You are not puzzled by German overall economic performance, nor should you be.

    Ignoring talk and focusing on dollars and Euros, one might ask what anti Keynesian Germany ?

  6. I would propose a different explanation of the reasons behind unemployment in Germany:

    1. genauer:
      Ivan, I share your view, that many things in macroeconomics can be explained (to a large degree) by demography.

      But your explanation (Philips Curve Fig 2.6.3) of inflation vs unemployment is a classic example of (time) co dependency and breaks down, exactly where it gets interesting, the last 5 years.

  7. Germany's hesitation to call for a new fiscal stimulus package is neither mysterious nor ideologically motivated. The simple truth is: With GDP probably rising by 1.5 - 2 percent in 2012 and unemployment continuing to fall, the economy does not need any fiscal stimulus! Indeed, it alread gets a lot of monetary stimulus. As a result of its save haven status for financial investors and the expansive monetary policy of the ECB, real interest rates are as low as in the 1960s/early 1970s. In addition, the real exchange rate is also as low as last time seen in the 1960s!

    To understand the current strengh of the German economy, one has to see that it has had a completely different economic cycle than most other economies over the past 20 years or so. It experienced three "shocks" that other European countries did not experience or experienced in a different way:

    The first was unification and the opening up of eastern Europe. That created a boom in domestic demand, in particular a housing boom as the population increased (by 8%(!) between 1988 and 1997). Wages increased strongly, international competitiveness eroded and Germany was running a current account deficit for all of the 1990s. At the end of the decade that boom was extended by the privatisation of the post and telecoms industry which caused the dotcom bubble to be particularly strong in Germany (the DAX rose more than the S&P 500 between 1996 and 2000!).

    The second "shock" was the start of EMU - which more or less occurred at the same time as the dotcom bubble burst and the housing boom finally came to an end. EMU meant that interest rates were too high for the weak German economy which suffered from the sharp increase in household, corporate and public debt that had occurred over the 1990s. As consumption and investment stagnated for years, Germany became "the sick man of Europe".

    The third "shock" was basically the political response to this agonizing. This came with the labour market and social security reforms implemented between 2003 and 2005 ("Agenda 2010,"Hartz" reforms). I have argued elsewhere ( that these are one of the main forces behind the current economic miracle in Germany. Among other things, they help to understand why unemployment did not rise in 2009 although the economy experienced one of the sharpest recessions of all industrialized countries (GDP declined by 5.1 percent in 2009).

    To sum up, the current strength of the German economy - and the fact that it is not keen on fiscal stimulus - is to a large due to the facts that

    a) we had our housing boom a decade earlier,
    b) we, consequently, also had the deleveraging or households and firms a decade earlier,
    c) we implemented the labour market reforms some countries (Italy, Spain, France(?) etc. are now implementing a decade earlier, and
    - as a result of these divergences -
    d) ECB interest rates are now too low for the German economy while they were too high a decade earlier.

    1. Dear Carsten-Patrick

      Thanks very much for this extensive comment. In one sense I think what you say is quite consistent with the first half of my post. As I said, the macro case for stimulus from a national point of view does not look strong - you might put it a little more strongly. So we can probably agree that we would not have any stimulus whatever the attitude to Keynesian policy was.

      What interests me is whether you disagree with me when I wrote that there appears to be an "aversion to countercyclical fiscal policy within the German economic policy establishment". I think this may matter not because of what is happening in Germany at the moment, for the reasons you give, but because of the influence this may be having on policy in the Eurozone. As you may know, I'm particularly perplexed about the absence of discussion of countercyclical fiscal policy in both the original Stability and Growth Pact and the latest treaty. I'm tempted to link this to German attitudes to Keynesian policy. Do you think I and others are wrong to make this link?

    2. Dear Simon,

      I think on balance it is probably correct to say the German establishment is somewhat cautious towards countercyclical fiscal policy. But I would hesitate to call this caution much stronger than the caution the current macroeconomic mainstream suggests with respect to fiscal policy - although probably for different reasons.

      Clearly, one intellectual root of this position is 'Ordo-liberalism' which argues against discretionary policy intervention in general and in favour of rules. However, at least as important seems to me the historical experience of the mid-1960s to early 1980s when the social-democratic government implemented anti-cyclical fiscal policies extensively. The current reading of this period of 'Globalsteuerung' (global control) is that fiscal policy failed to keep unemployment from rising and that all it left were subtantially higher public deficits.

      That the German government overcame its caution towards fiscal measures in 2008/2009, as you correctly point out in your post, shows that distain for countercyclical fiscal measures is not absolute. The - German-inspired - Stability and Growth Pact is another case in point. Countercylical policy is not fully absent from its design: Deficits higher than 3 percent are allowed in case of "exceptional circumstances" which may well be a severe recession. Presumably, these two examples are indicative of the German establishment's mindset towards countercyclical fiscal policy in general: It is something to be used only under special circumstances.

      I share your point that this position may not be compatible with having a monetary union. At least not at the moment, when the cycles of the participating countries are far from being synchronized.

  8. I agree with Carsten-Patrick on many things.
    That Germany (and Sweden, Finland, Netherlands, Canada) are out of sync with the rest, and had to adjust their welfare states 10 - 15 years earlier.
    But I think the house price bubble actually peaked in 1991, with all these generous "social" subsidies, which basically drove up prices and un-subsidized people (like me) out of the market.

    "work programmes" were shown in the late 70ties to be a waste of money. in early 2009 Germany actually had a list of infrastructure projects, which make sense, but were not done due to finance / priority constraints.

    Private debt per GDP was actually highest in
    Germany around 2000
    And looking at the Japanese rates and US was successfully used to predict "the Second Great Depression: 2007 -2020" !

  9. Ordoliberalism has three main elements
    1. Governments keep budgets in check
    2. Central bank keeps inflation in check and stability of the system
    3. Macro-economic policy is to be dealt with by employers and workers (unions, coordination)

    It is the third element that caused Hartz IV in Germany. A similar agreement for the Eurozone as a whole would be needed today. Gradually various EU countries are moving to such a social accord. Holland now tries to create the institutions (French unions are much weaker than German ones) and various political parties in The Netherlands (broad spectrum) are beginning to promote the idea in the current elections run up.

    The key issue is, whether we will get a social accord at European scale geared to rebalance the current situation.

    The advantage of a Social Accord is that one doesn't need to rewrite European Treaties. It does however ask for European employers and Unions to jump past their shadows and begin a negotiation.

    In general a Social Accord is a coordination device to negotiate labour market reforms and wages.

    In its essence the SGP is for government budgets, the ECB charter restricts itself to the Ordoliberal approach, it is the lack of discussion of the third pillar of Ordoliberalism, employer/union coordination, that is striking today.

    1. In addition,

      While Hollande is busy in France to create a negotiation table in Sozial-Marktwirtschaft / Ordoliberal style and some political parties push for a fiscal stimulus or a coordinated wage boost in The Netherlands and Germany, the Dutch Central Bank (DNB) last week published a study, stating that such an asymmetric policy doesn't help southern countries that much.

      DNB argues that the export mix is too different that higher salaries in Northern Europe boost production in Southern countries. The only country that seems to benefit from it is Ireland.

      DNB argues that most of a salary increase in Northern Europe will leak away to non-Eurozone members. Effectively stating that country to what a.o. Paul Krugman thinks, the Eurozone economy is too specialised and not sufficiently engaged in internal trade to consider it a closed economy.

      A rapid wage increase in Northern Europe therefore in their view will boost imports from Asia and North America to Northern Europe. Only Ireland has the kind of industry/exports to profit from its substition effects.

      This is a rather serious critique on why Keynesian programs (fiscal stimulus) or an Ordoliberal approach (coordinated higher wage increase in Northern Europe vs Southern Europe) do not have the intended effect.

      Southern lack of competitiveness is not alas that easily cured and in contrast to the narrative, Germany didn't earn its export led boom by exporting to the Southern countries. Spain's intra-EU exports to the Eurozone core have grown faster than Germany's intra-EU exports.

      So while I do think that a coordinated wage increase in Northern Europe in Ordoliberal fashion may help more than Fiscal Stimulus (as it puts purchase power immediately in all peoples pockets) the leakage argument against such a policy seems to be taken serious, even when the increase woul be coordinated over entire Northern Europe.

      Despite that, the route is still worth to explore, as in contrast to most other EU attempts (such as banking union, fiscal union etc.) it doesn't require a Treaty and hence that route cannot be blocked by the German Constitutional Court etc.

      Also a coordination agreement between Employers, Unions and Government is the typical way the political centre broadens its clout against hard-left and hard-right extremist parties. It is therefore for most parties in government a serious policy option, because it improves their chances in re-elections and curtail extremist parties back to fringe positions.


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