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Economics & Finance

To Compete in Today's Global Economy, Germany Has Put Itself First

Jonathan Story, INSEAD Emeritus Professor of International Political Economy |

Germany’s sense of duty to the EU is taking a back seat to its own commitment to being a global economic powerhouse.

Since 2008, when the euro crisis broke, Germany has unabashedly asserted primacy in Europe. Berlin is now a champion of states’ rights, and clearly considers that global considerations take precedence over regional commitments.

Back in 1990, it was all supposed to be different.  As Germany moved to unity, a European coalition, led by France, sought to corral Germany into a collective future, where no one country would be in a position to set policy for others.  The euro was duly launched in 1999, and its first decade of existence celebrated as an unmitigated success.

Meanwhile, the world economy changed shape.  As Europeans focused on their ambitious programme of integration, the main story for global business was East Asia’s phenomenal growth.

With a combined economy equal to 30 percent of global GDP, up ten points over 1990, and a per capita income 90 percent of the world average, East Asia became the key world market place, with growth rates in the intervening years three times that of Europe and North America. Asia’s share of world exports rose from 22 percent of world trade in goods and services in 1990 to 37 percent in 2010.

Nowhere else in the world was the middle class growing faster. Foreign direct investment flowed in, particularly to China, attracted by the 30:1 differential in unit labour costs there, and the promise of China’s vast internal market.

With domestic savings at 50 percent GDP, and access to the EU and U.S. markets ensured by its membership in the WTO, China’s current account surplus soared. Together, China and Japan by 2012 had amassed foreign exchange reserves respectively of US$3.2 trillion, and US$1.2 trillion. By 2012, both Japan and China’s net foreign asset position stood at 54 percent of their respective GDPs.  Asia became the world’s prime creditor.

This global transformation is the driving force behind developments in Europe. Irrigated by the Asian savings surplus and also by U.S. easy money policies, banks out of London busily sold structured products, including U.S. mortgage business, to the more sleepy local banks in Germany and in the wider European market. 

In Germany, realisation that German unit labour costs were way out of line with Asia’s prompted German business into action. Costs were ground down much faster than in France and Southern euro members, while lower value added producers in the Mediterranean states faced direct competition from Chinese producers on their traditional markets.

By contrast, Germany’s exports rocketed. Neither France nor Italy responded as did Germany to the challenge of global competition. The result was a soaring German current account surplus with the rest of Europe, equivalent in size to China’s trade surplus with America. Funds flowed southwards out of Germany and its equally competitive Nordic partners, to finance the burgeoning current account deficits of France and the Mediterranean EU member states.

So why did the German government not agree to have the EU underwrite collectively the liabilities of its Southern euro partners?  German companies had come to depend more than ever on demand from Southern Europe. A deal involving a joint guarantee of bank liabilities against further liberalisation of markets would have been attractive. Europe would have benefitted by deeper integration.

But of European solidarity there was no sign. For one, EU member states had refused to flank the single currency with a federal authority, armed with its own fiscal and regulatory powers. When the downturn came, there was no countervailing power in Brussels to offset the effects of the recession in the countries most hit by the crisis.

Then, with unity achieved, German enthusiasm for a federal Europe cooled.  German taxpayers were reluctant enough to transfer the equivalent of 6 percent of GDP each year for over two decades to help their fellow countrymen in the former East Germany, but they were positively hostile to underwrite the liabilities of the Southern European countries. 

Germany was not alone in thinking national.  The Dutch, French and Irish electorates all voted against the EU’s draft constitution, which subsequently came into effect as the Lisbon Treaty. The German Constitutional Court judged the document as defining the EU as an alliance of sovereign states, and not as a federation.

A priority for German business and labour unions was to preserve the German homeland as a manufacturing platform. That entailed outsourcing production to Central-Eastern Europe, away from the less attractive Mediterranean member states, while moving up the value chain at home. German corporations unravelled the inherited bank-industry cross-shareholding structures and moved to become global players responsive to the demands of global institutional investors.

The redeployment of German business on a global scale is most evident in its collective presence on the China home market. By 2015, China is expected to account for 15 percent of German exports, compared to under 10 percent, and falling, going to France. If local sales from German plants in China are added to exports to China from Germany, total German corporate sales in China in the coming years may be expected to rise to upwards of a quarter of total German corporate sales worldwide.

The lesson is clear: To preserve the German home production base, and take advantage of fast growing emerging markets, Germany’s European interests take second place to Germany remaining a major player on global markets. For a quietly confidant Germany, its nation comes before the EU. Not surprisingly, Berlin’s relations with Paris have cooled.

Jonathan Story is Emeritus Professor of International Political Economy at INSEAD.

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