Economic history of Germany

=Middle Ages=

Medieval Germany, lying on the open Northern European Plain, was divided into hundreds of contending kingdoms, principalities, dukedoms, bishoprics, and free cities. Economic survival in that environment, like political or even physical survival, did not mean expanding across unlimited terrain, as in the United States. It meant a constant struggle that required collaboration with some, competition with others, and an intimate understanding among government, commerce, and production. A desire to save was also born in the German experience of political, military, and economic uncertainty.

Even under these difficult conditions, Germany had already developed a strong economy during the Middle Ages. It was based on guild and craft production, but with elements of merchant capitalism and mercantilism. The trade conducted by its cities ranged far and wide throughout Europe in all directions, and Germany as a whole often had trade surpluses with neighboring states. One reason for these exports was the sheer necessity for the small states to sell abroad in order to buy the many things they could not produce at home.

The German guilds of the Middle Ages established the German tradition of creating products known for quality and durability. A craftsman was not permitted to pursue a trade until he could demonstrate the ability to make high-quality products. Out of that same tradition came an equally strong passion for education and vocational training, for no craftsman was recognized until he had thoroughly learned a trade, passed a test, and been certified (often via an apprenticeship training).

Industrial revolution

The Industrial Revolution reached Germany long after it had flowered in Britain, and the governments of the German states supported local industry because they did not want to be left behind. Many enterprises were government initiated, government financed, government managed, or government subsidized. As industry grew and prospered in the nineteenth century, Prussia and other German states consciously supported all economic development especially transportation and industry.

The north German states were for the most part richer in natural resources than the southern states. They had vast agricultural tracts from Schleswig-Holstein in the west through Prussia in the east. They also had coal and iron in the Ruhr Valley. Through the practice of primogeniture, widely followed in northern Germany, large estates and fortunes grew. So did close relations between their owners and local as well as national governments.

The south German states were relatively poor in natural resources except for their people, and those Germans therefore engaged more often in small economic enterprises. They also had no primogeniture rule but subdivided the land among several offspring, leading those offspring to remain in their native towns but not fully able to support themselves from their small parcels of land. The south German states, therefore, fostered cottage industries, crafts, and a more independent and self-reliant spirit less closely linked to the government.

German banks played central roles in financing German industry. They also shaped industrywide producer cooperatives, known as cartels ("Konzerne"). Different banks formed cartels in different industries. Cartel contracts were accepted as legal and binding by German courts although they were held to be illegal in Britain and the United States.

The first German cartel was a salt cartel, the Neckar Salt Union of 1828, formed in Württemberg and Baden. The process of cartelization began slowly, but the cartel movement took hold after 1873 in the economic depression that followed the postunification speculative bubble. It began in heavy industry and spread throughout other industries. By 1900 there were 275 cartels in operation; by 1908, over 500. By some estimates, different cartel arrangements may have numbered in the thousands at different times, but many German companies stayed outside the cartels because they did not welcome the restrictions that membership imposed.

The government played a powerful role in the industrialization of the German Empire founded by Otto von Bismarck in 1871 during a period known as the Second Industrial Revolution. It supported not only heavy industry but also crafts and trades because it wanted to maintain prosperity in all parts of the empire. Even where the national government did not act, the highly autonomous regional and local governments supported their own industries. Each state tried to be as self-sufficient as possible.

Despite the several ups and downs of prosperity and depression that marked the first decades of the German Empire, the ultimate wealth of the empire proved immense. German aristocrats, landowners, bankers, and producers created what might be termed the first German economic miracle, the turn-of-the-century surge in German industry and commerce during which bankers, industrialists, mercantilists, the military, and the monarchy joined forces.

The German Empire also established, under Bismarck's direction, the social compact under which the German laboring classes supported the national ambitions of the newly united German state in exchange for a system of social welfare that would make them, if not full participants in the system, at least its beneficiaries in case of losing the ability to work by accident and pensioners. Bismarck was not a socialist, but he was convinced that it was necessary to accept portions of the socialist platform to sustain loyalty of the working classes, especially as the social progress was accompanied by banning the SPD.

From the prosperity of the empire during the Wilhelmine era (1890-1914), Germany plunged into World War I, a war it was to lose and one that spawned many of the economic crises that would destroy the successor Weimar Republic. British economist John Maynard Keynes denounced the 1919 Treaty of Versailles as ruinous to German and global prosperity. The war and the treaty were followed by the Great Inflation of the early 1920s that wreaked havoc on Germany's social structure and political stability. During that inflation, the value of the nation's currency, the Papiermark, collapsed from 8.9 per US$1 in 1918 to 4.2 trillion per US$1 by November 1923. Then, after a brief period of prosperity during the mid-1920s, came the Great Depression, which destroyed what remained of the German middle class and paved the way for the dictatorship of Adolf Hitler.

Nazi economy

During the Hitler era (1933-45), the economy developed a hothouse prosperity, supported with high government subsidies to those sectors that tended to give Germany military power and economic autarchy, that is, economic independence from the global economy. During the war itself the German economy was sustained by the exploitation of conquered territories and peoples. With the loss of the war, the country entered into the period known as Stunde Null ("Zero Hour"), when Germany lay in ruins and the society had to be rebuilt from scratch.

Post-WWII

The first several years after World War II were years of bitter penury for the Germans. Their land, their homes, and their property lay in ruin. Millions were forced to flee with nothing but the clothes on their backs. Tens of millions did not have enough to eat or to wear. Inflation raged. Parker pens, nylon stockings, and Camel cigarettes represented the accepted, if not the legal, tender of the time. Occupation projections showed that the average German would be able to purchase a plate every five years, a pair of shoes every twelve years, and a suit every fifty years. (See also the Morgenthau plan)

As Germany's postwar economic and political leaders shaped their plans for the future German economy, they saw in ruin a new beginning, an opportunity to position Germany on a new and totally different path. The economy was to be an instrument for prosperity, but it was also to safeguard democracy and to help maintain a stable society. The new German leaders wanted social peace as well as economic prosperity. They wanted an economic system that would give all an equal opportunity in order to avoid creating underprivileged social groups whose bitter frustration would erupt into revolution and--in turn--repression.

The man who took full advantage of Germany's postwar opportunity was Ludwig Erhard, who was determined to shape a new and different kind of German economy. He was given his chance by United States officials, who found him working in Nuremberg and who saw that many of his ideas coincided with their own. He was influenced by the Austrian School.

Erhard's first step was currency reform: the abolition of the Reichsmark and the creation of a new currency, the Deutsche Mark. He carried out that reform on 21 June 1948, installing the new currency with the concurrence of the Western Allies but also taking advantage of the opportunity to abolish most Nazi and occupation rules and regulations in order to establish the genesis of a free economy. The currency reform, whose purpose was to provide a respected store of value and a widely accepted legal tender, succeeded brilliantly. It established the foundations of the West German economy and of the West German state.

The Social Market Economy

The Germans proudly label their economy a "soziale Marktwirtschaft ," or "social market economy," to show that the system as it has developed after World War II has both a material and a social--or human--dimension. They stress the importance of the term "market" because after the Nazi experience they wanted an economy free of state intervention and domination. The only state role in the new West German economy was to protect the competitive environment from monopolistic or oligopolistic tendencies--including its own. The term "social" is stressed because West Germans wanted an economy that would not only help the wealthy but also care for the workers and others who might not prove able to cope with the strenuous competitive demands of a market economy. The term "social" was chosen rather than "socialist" to distinguish their system from those in which the state claimed the right to direct the economy or to intervene in it.

Beyond these principles of the social market economy, but linked to it, comes a more traditional German concept, that of Ordnung, which can be directly translated to mean order but which really means an economy, society, and polity that are structured but not dictatorial. The founders of the social market economy insisted that Denken in Ordnungen--to think in terms of systems of order--was essential. They also spoke of Ordo-Liberalismus because the essence of the concept is that this must be a freely chosen order, not a command order.

Over time, the term "social" in the social market economy began to take on a life of its own. It moved the West German economy toward an extensive social welfare system that has become one of the most expensive in the world. Moreover, the West German federal government and the states ("Länder" ; sing., "Land" ) began to compensate for irregularities in economic cycles and for shifts in world production by beginning to shelter and support some sectors and industries. In an even greater departure from the Erhard tradition, the government became an instrument for the preservation of existing industries rather than a force for renewal. In the 1970s, the state assumed an ever more important role in the economy. During the 1980s, Chancellor Helmut Kohl tried to reduce that state role, and he succeeded in part, but German unification again compelled the German government to assume a stronger role in the economy. Thus, the contradiction between the terms "social" and "market" has remained an element for debate in Germany.

Given the internal contradiction in its philosophy, the German economy is both conservative and dynamic. It is conservative in the sense that it draws on the part of the German tradition that envisages some state role in the economy and a cautious attitude toward investment and risk-taking. It is dynamic in the sense that it is directed toward growth--even if that growth may be slow and steady rather than spectacular. It tries to combine the virtues of a market system with the virtues of a social welfare system.

= The Economic Miracle and Beyond =

The economic reforms and the new West German system received powerful support from a number of sources: investment funds under the European Recovery Program, more commonly known as the Marshall Plan; the stimulus to German industry provided by the diversion of other Western resources for Korean War production; and the German readiness to work hard for low wages until productivity had risen. But the essential component of success was the revival of confidence brought on by Erhard's reforms and by the new currency.

The West German boom that began in 1950 was truly memorable. The growth rate of industrial production was 25.0 percent in 1950 and 18.1 percent in 1951. Growth continued at a high rate for most of the 1950s, despite occasional slowdowns. By 1960 industrial production had risen to two-and-one-half times the level of 1950 and far beyond any that the Nazis had reached during the 1930s in all of Germany. GDP rose by two-thirds during the same decade. The number of persons employed rose from 13.8 million in 1950 to 19.8 million in 1960, and the unemployment rate fell from 10.3 percent to 1.2 percent.

Labor also benefited in due course from the boom. Although wage demands and pay increases had been modest at first, wages and salaries rose over 80 percent between 1949 and 1955, catching up with growth. West German social programs were given a considerable boost in 1957, just before a national election, when the government decided to initiate a number of social programs and to expand others.

In 1957 West Germany gained a new central bank, the Deutsche Bundesbank, generally called simply the Bundesbank, which succeeded the Bank Deutscher Länder and was given much more authority over monetary policy. That year also saw the establishment of the Bundeskartellamt (Federal Cartel Office), designed to prevent the return of German monopolies and cartels. Six years later, in 1963, the Bundestag, the lower house of Germany's parliament, at Erhard's urging established the Council of Economic Experts to provide objective evaluations on which to base German economic policy.

The West German economy did not grow as fast or as consistently in the 1960s as it had during the 1950s, in part because such a torrid pace could not be sustained, in part because the supply of fresh labor from East Germany was cut off by the Berlin Wall, built in 1961, and in part because the Bundesbank became disturbed about potential overheating and moved several times to slow the pace of growth. Erhard, who had succeeded Konrad Adenauer as chancellor, was voted out of office in December 1966, largely--although not entirely--because of the economic problems of the Federal Republic. He was replaced by the Grand Coalition consisting of the Christian Democratic Union (Christlich Demokratische Union--CDU), its sister party the Christian Social Union (Christlich-Soziale Union--CSU), and the Social Democratic Party of Germany (Sozialdemokratische Partei Deutschlands--SPD) under Chancellor Kurt Georg Kiesinger of the CDU.

Under the pressure of the slowdown, the new West German Grand Coalition government abandoned Erhard's broad laissez-faire orientation. The new minister for economics, Karl Schiller, argued strongly for legislation that would give the federal government and his ministry greater authority to guide economic policy. In 1967 the Bundestag passed the Law for Promoting Stability and Growth, known as the Magna Carta of medium-term economic management. That law, which remains in effect although never again applied as energetically as in Schiller's time, provided for coordination of federal, Land, and local budget plans in order to give fiscal policy a stronger impact. The law also set a number of optimistic targets for the four basic standards by which West German economic success was henceforth to be measured: currency stability, economic growth, employment levels, and trade balance. Those standards became popularly known as the magisches Viereck , the "magic rectangle" or the "magic polygon."

Schiller followed a different concept from Erhard's. He was one of the rare German Keynesians, and he brought to his new tasks the unshakable conviction that government had both the obligation and the capacity to shape economic trends and to smooth out and even eliminate the business cycle. Schiller's chosen formula was Globalsteuerung, or global guidance, a process by which government would not intervene in the details of the economy but would establish broad guidelines that would foster uninterrupted noninflationary growth.

Schiller's success in the Grand Coalition helped to give the SPD an electoral victory in 1969 and a chance to form a new coalition government with the Free Democratic Party (Freie Demokratische Partei--FDP) under Willy Brandt. The SPD-FDP coalition expanded the West German social security system, substantially increasing the size and cost of the social budget. Social program costs grew by over 10 percent a year during much of the 1970s, introducing into the budget an unalterable obligation that reduced fiscal flexibility (although Schiller and other Keynesians believed that it would have an anticyclical effect). This came back to haunt Schiller as well as every German government since then. Schiller himself had to resign in 1972 when the West German and global economies were in a downturn and when all his ideas did not seem able to revive West German prosperity. Willy Brandt himself resigned two years later.

Helmut Schmidt, Brandt's successor, was intensely interested in economics but also faced great problems, including the dramatic upsurge in oil prices of 1973-74. West Germany's GDP in 1975 fell by 1.4 percent (in constant prices), the first time since the founding of the FRG that it had fallen so sharply. The West German trade balance also fell as global demand declined and as the terms of trade deteriorated because of the rise in petroleum prices.

By 1976 the worst was over. West German growth resumed, and the inflation rate began to decline. Although neither reached the favorable levels that had come to be taken for granted during the 1950s and early 1960s, they were accepted as tolerable after the turbulence of the previous years. Schmidt began to be known as a Macher (achiever), and the government won reelection in 1976. Schmidt's success led him and his party to claim that they had built Modell Deutschland (the German model).

But the economy again turned down and, despite efforts to stimulate growth by government deficits, failed to revive quickly. It was only by mid-1978 that Schmidt and the Bundesbank were able to bring the economy into balance. After that, the economy continued expanding through 1979 and much of 1980, helping Schmidt win reelection in 1980. But the upturn proved to be uneven and unrewarding, as the problems of the mid-1970s rapidly returned. By early 1981, Schmidt faced the worst possible situation: growth fell and unemployment rose, but inflation did not abate.

By the fall of 1982, Schmidt's coalition government collapsed as the FDP withdrew to join a coalition led by Helmut Kohl, the leader of the CDU/CSU. He began to direct what was termed die Wende (the turning or the reversal). The government proceeded to implement new policies to reduce the government role in the economy and within a year won a popular vote in support of the new course.

Within its broad policy, the new government had several main objectives: to reduce the federal deficit by cutting expenditures as well as taxes, to reduce government restrictions and regulations, and to improve the flexibility and performance of the labor market. The government also carried through a series of privatization measures, selling almost DM10 billion (for value of the deutsche mark--see Glossary) in shares of such diverse state-owned institutions as VEBA, VIAG, Volkswagen, Lufthansa, and Salzgitter. Through all these steps, the state role in the West German economy declined from 52 percent to 46 percent of GDP between 1982 and 1990, according to Bundesbank statistics.

Although the policies of die Wende changed the mood of the West German economy and reinstalled a measure of confidence, progress came unevenly and haltingly. During most of the 1980s, the figures on growth and inflation improved but slowly, and the figures on unemployment barely moved at all. There was little job growth until the end of the decade. When the statistics did change, however, even modestly, it was at least in the right direction.

Nonetheless, it also remained true that West German growth did not again reach the levels that it had attained in the early years of the Federal Republic. There had been a decline in the growth rate since the 1950s, an upturn in unemployment since the 1960s, and a gradual increase in inflation except during or after a severe downturn.

Global economic statistics also showed a decline in West German output and vitality. They showed that the West German share of total world production had grown from 6.6 percent in 1965 to 7.9 percent by 1975. Twelve years later, in 1987, however, it had fallen to 7.4 percent, largely because of the more rapid growth of Japan and other Asian states. Even adding the estimated GDP of the former East Germany at its peak before unification would not have brought the all-German share above 8.2 percent by 1989 and would leave all of Germany with barely a greater share of world production than West Germany alone had reached fifteen years earlier.

It was only in the late 1980s that West Germany's economy finally began to grow more rapidly. The growth rate for West German GDP rose to 3.7 percent in 1988 and 3.6 percent in 1989, the highest levels of the decade. The unemployment rate also fell to 7.6 percent in 1989, despite an influx of workers from abroad. Thus, the results of the late 1980s appeared to vindicate the West German supply-side revolution. Tax rate reductions had led to greater vitality and revenues. Although the cumulative public-sector deficit had gone above the DM1 trillion level, the public sector was growing more slowly than before.

The year 1989 was the last year of the West German economy as a separate and separable institution. From 1990 the positive and negative distortions generated by German reunification set in, and the West German economy began to reorient itself toward economic and political union with what had been East Germany. The economy turned gradually and massively from its primarily West European and global orientation toward an increasingly intense concentration on the requirements and the opportunities of unification.

German Reunification and Its Aftermath

The East German and West German economies at the time of unification looked very similar. They both concentrated on industrial production, especially machine tools, chemicals, automobiles, and precision manufactures. Both had a well-trained labor force and an important export component, although their exports went largely in opposite directions. But the East German economy was highly centralized and guided by a detailed and purportedly precise planning system, with virtually no private property and with no room for decision or initiative.

On July 1, 1990, the economies of the two Germanys became one. It was the first time in history that a capitalist and a socialist economy had suddenly become one, and there were no precise guidelines on how it could be done. Instead, there were a number of problems, of which the most severe were the comparatively poor productivity of the former East German economy and its links to the collapsing socialist economies of the Soviet Union and Eastern Europe.

Even before economic unification, the West German government had decided that one of its first tasks was to privatize the East German economy. For this reason, it had taken over in June the Treuhandanstalt (Trust Agency, commonly known as Treuhand), which had been established by the GDR to take over East German firms and to turn them over to new management through privatization. The agency assumed the assets and liabilities of about 8,000 East German enterprises in order to sell them to German and other bidders. By the time the Treuhand was disbanded at the end of 1994, it had privatized some 14,000 enterprises. The policies of the Treuhand were not universally welcomed, and the CEO Detlev Karsten Rohwedder [http://de.wikipedia.org/wiki/Detlev_Karsten_Rohwedder] was assassinated in Düsseldorf in 1991.

As economic unification proceeded, issues that had been recognized but inadequately understood in advance began to surface. There was massive confusion about property rights. As wave after wave of Nazi, Soviet, and later GDR expropriations had taken place between 1933 and 1989, there was often little knowledge of the actual ownership of property. More than 2 million claims on properties in the territory of the former GDR were filed by the December 31, 1992, deadline. As more claimants emerged, with many winning cases in the courts, potential investors were often scared off.

Another problem was that East German production costs had been very high. The conversion rates of East German Mark to German Mark often kept those costs high, as did the early wage negotiations, which resulted in wages far above the productivity level. Western German firms found it easier and cheaper to serve their new eastern German markets by expanding production in western facilities.

A third problem was that the inadequate infrastructure also became a problem for many potential investors. Telephone service was improved only very slowly. Many investors also complained about energy shortages, as many East German power stations were shut down for safety and other reasons. Roads and railroads had to be virtually rebuilt because they had been so badly maintained.

In addition to these practical problems, there was also a deep policy dilemma that underlay the entire process of unification. From the beginning, there had been a pernicious link between the earlier and later phases of the East German transition to a free-market economy. Policies calculated to make the initial adjustment as painless as possible hampered long-run growth and prosperity. Real economic efficiency could only be achieved by permitting and even forcing considerable immediate dislocations, whereas temporary compromises might lead to permanent structural burdens. However, excessive disruptions could jeopardize the economic and political stability required for a smooth unification process and might also cause streams of East Germans to move west. The government was never able to solve this dilemma. When it was forced to choose, it usually selected the more expensive and slower course to encourage persons to stay in the east.

Despite these problems, the process of unification moved ahead, albeit slowly. The Treuhand, staffed almost entirely by Germans from the west, became the virtual government of eastern Germany. In the course of privatization, the agency decided which companies would live and which would die, which communities would thrive and which would shrivel, and which eastern Länder would be prosperous and which would not. It also decided who might or might not buy eastern firms or services.

Whether correct or not, reports persisted throughout the first years of unification that foreign enterprises were being screened more carefully and more skeptically than German firms even as they were being invited to invest. Less than 5 percent of all investment in eastern Germany was non-German, and most of that was from companies with subsidiaries in western Germany who were expanding them to the east. The Japanese did not invest, although they had earlier expressed some interest, and the offices Treuhand established in New York and Tokyo found few investors.

As might have been expected, the economy of eastern Germany went into a deep and precipitous slump immediately after unification. Within a year after unification, the number of unemployed rose above 3 million. Industrial production in eastern Germany fell to less than half the previous rate, and the total regional product fell precipitously through 1991. One estimate was that in 1991 the entire production of eastern Germany amounted to less than 8 percent of that of western Germany.

Because the process of unification was managed by persons from western Germany, new eastern firms were usually subsidiaries of western firms, and they followed the western ownership and management patterns. Bank participation became customary, especially because the large Frankfurt banks assumed the assets of the former East German State Bank, and most eastern firms thus owed money to those Frankfurt banks. The banks installed their representatives on the boards of the new firms and assumed some supervisory functions--either directly or through control by western firms with bank representation. The Treuhand had close contacts with western German banks. Many of its employees came from those banks and planned to return to their jobs at the banks.

Because of these circumstances, private investment and economic growth came to eastern Germany at a relatively slow rate. Little new equity capital flowed in. Investment during the early years of unification was only 1 percent of the all-German GDP, when much more was needed to jump-start the economy of eastern Germany. Much of the investment was for the purchase of eastern German companies, not yet for their rehabilitation. Many western German firms bought eastern firms on a standby basis, making sure they could produce in the east when the time came and paying enough wages to satisfy the Treuhand but not starting production. Many others, including Daimler-Benz, did not even meet the commitments that they had made when they had purchased the eastern German firms from the Treuhand. Thus, western German private investment was not strong enough to boost the eastern German economy.

As private funds lagged, and in part because those funds lagged, federal budget investments and expenditures began flowing into eastern Germany at a consistently high rate. Government funds were used essentially for two purposes: infrastructure investment projects (roads, bridges, railroads, and so on), and income maintenance (unemployment compensation, social security, and other social costs). The infrastructure projects sustained employment levels, and the income maintenance programs sustained income. But neither had an early growth payoff.

Although the precise level of German official expenditures in eastern Germany has been difficult to estimate because funds appropriated in one year might have been spent in another, it is beyond dispute that the federal government expended well over DM350 billion in eastern Germany during the first three years after economic, or monetary, unification. After 1992 this requirement has continued at an annual level of around DM150 billion, so that the sum of private and public funds put into eastern Germany during the half-decade between monetary unification in 1990 and the end of 1995 would probably amount to at least DM750 billion and perhaps as much as DM850 billion. Between one-fifth and one-fourth of those funds were private, and the remainder were government funds. This constituted an infusion of outside money of about DM50,000 for every resident of eastern Germany, a far greater level of assistance than contemplated for any other area that had been behind the Iron Curtain and a token of German determination to bring eastern Germany to western levels as quickly as possible.

As eastern Germany went into a deep recession during the first phase of unification, the western German economy went into a small boom. Western German GDP grew at a rate of 4.6 percent for 1990, reflecting the new demand from eastern Germany. The highest growth rate came during the second half of 1990, but growth continued at only a slightly slower pace into early 1991. Prices, however, remained relatively stable because the cost of living grew at only 2.8 percent despite some high wage settlements in some industries. Employment rose during the year, from 28.0 million to 28.7 million, and the unemployment rate sank to 7.2 percent. Notably, the number of registered unemployed in western Germany only declined by about 300,000, showing that at least half of the new jobs in western Germany had been taken by persons who had moved to or were commuting from eastern Germany.

The dramatic improvement in the western German figures resulted from the opening in eastern Germany of a large new market of 16 million persons and the simultaneous availability of many new workers from eastern Germany. Many easterners did not want the shoddy goods produced at home, preferring western consumer products and food. Moreover, many easterners were coming to the west to work. By the end of 1990, as many as 250,000 were commuting to work in the west, and that number was estimated to have grown to 350,000 or even 400,000 by the middle of 1991.

This meant that western Germany not only had a vast new market but also a growth of over 1 percent in its workforce, as sharp an increase as since the days of the economic miracle. It also increased its capital base because eastern German deposits were placed in western German banks that had come east and because those deposits moved back to the central German financial market at Frankfurt.

The Bundesbank became worried about three elements of the sudden boom: the sudden financial shifts between east and west, which led to a jump in money supply; government deficits resulting from large expenditures in eastern Germany; and the potentially inflationary effects of a rapid growth rate in the west. The bank warned that interest rates would have to remain high to keep price increases under control. The bank raised short-term interest rates sharply through 1991 and 1992, with the average rate of short-term interest climbing from 7.1 percent in 1989 to 8.5 percent in 1990, to 9.2 percent in 1991, and to 9.5 percent in 1992. The Bundesbank permitted rates to begin falling only in 1993--to 7.3 percent--when it believed that the inflationary pressures had been contained by the recessionary effects of the credit squeeze.

As the Bundesbank's policies began to take hold, growth slowed in western Germany, from 4.2 percent in the first quarter of 1991 to 0.8 percent in the last quarter of 1992. For all of 1992, the western German growth rate was 1.5 percent, a decline from the 3.7 percent rate of 1991 and even more from the 4.6 percent rate of 1990. The eastern German growth rate was 6.1 percent during 1992, well below the 7 percent to 10 percent growth rate originally anticipated for the region. The number of employed in western Germany fell for the first time in ten years, by 89,000 persons.

Despite the slowdown, during 1992 the German economy reached a milestone of sorts. With the addition of eastern German production, Germany's GDP rose for the first time above DM3 trillion. Of that total, the new Länder contributed a gross regional product of DM231 billion, or 7.7 percent. However, the total of German unemployed also reached a record number, 4 million. Two-thirds of that number were unemployed in western Germany; the other one-third were unemployed in eastern Germany. Eastern Germany contributed more to unemployment than to production.

The 1992 depression continued into 1993, so that the economy actually registered a negative growth rate of -1.2 percent. By 1994, however, after the Bundesbank had been lowering short-term interest rates for over a year, German growth resumed at an annual rate of about 2.4 percent, but unemployment declined only very slowly despite the uptrend in GDP growth. It was expected that stronger growth would begin reducing the numbers of unemployed by 1995 and that Germany would return to its postwar path toward prosperity. But the absorption of eastern Germany, and the methods by which it had been accomplished, had exacted a high price throughout all of Germany.

References

* [http://lcweb2.loc.gov/frd/cs/detoc.html Germany]