A bimonthly magazine on international affairs, edited in Germany's capital

“The Bottom Forty Percent Have Not Benefited”

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Often seen as Europe’s unassailable economic powerhouse, Germany  will have some homework to do after the election, warns Marcel Fratzscher, head of the German Institute for Economic Research (DIW).

© REUTERS/Kai Pfaffenbach

In the German campaign, economic issues have been notable so far by their absence. Do you think they’re being discussed enough? Economic issues play a big role in an indirect way. Yes, Germany’s economy is doing well, the employment rate is very high, and many have enjoyed wage increases over the past few years. All this explains why topics like unemployment, growth, and income are on the back burner. But there are important indirect links to other topics, as inequality and social justice are indeed big issues. For instance, both the Social Democrats (SPD) and Angela Merkel’s Christian Democrats (CDU/CSU) have put forward proposals on lowering the income tax burden by €15 billion with different constituencies in mind. In other words, economic issues aren’t unimportant, they just manifest themselves in a different way.

Do the parties differ much in their approach, or are economic affairs another example of Germany’s consensus politics? There has been a high degree of consensus in German politics over the last few decades, and the differences between the major parties are relatively small. Divisions are much starker on issues like migration, questions of identity, family values – and I’m not just talking about the right-wing party Alternative für Deutschland (AfD) here, which obviously is very anti-immigration, very anti-foreigner.

Germany is one of the richest countries in Europe, but as you and others have pointed out in the past, we are witnessing rising poverty, especially in the lower-income sector. There certainly is a widespread feeling that not everyone has benefited from Germany’s positive development to the same extent, and some have not benefited at all.

Is it a feeling or a fact? Both. Regarding the factual basis, there is a debate among economists, with some saying: “More people have jobs today, so everything is fine.” Personally, I take a more critical view. If you look at the bottom 40 percent of income earners, their wages in real terms today are lower than in 1995. In other words, the bottom 40 percent have not benefited in terms of income. Yes, lately there have been increases, but if you take a longer view, there are clear signs that they’ve been excluded. And people feel that. In polls, 70 percent say they consider social and economic inequality to be too large. This view is widely shared even by people who consider themselves comfortable economically, but they see inequality around them and say: “It has risen too much.” Politicians should address that. Otherwise, the polarization of society will continue.

How? The most serious challenge is to ensure more equal opportunities for people, which has a lot to do with education and qualification. But we also see that the number of people in “atypical employment” – those who are working full-time or part-time at low wages – has increased markedly. Statistically, more than one in five people is in atypical employment. Qualification is the key here. There are more than one million vacancies in the German job market, but mostly for the well-qualified. Therefore, the next government should focus on getting people into the labor market, on deregulating the services sector to improve competition, and on abolishing unfair competitive advantages for a few privileged groups.

Whom do you have in mind? In the German services sector there are many who enjoy protection, from lawyers to real estate agents to pharmacists – something that has been criticized for years by the European Commission, by the OECD, by the IMF, by our own DIW research institute. This is largely about abolishing privileges so that less advantaged groups are also given a fair chance to compete, find jobs and have good incomes. Protectionism hampers competition, hurts economic performance, and ultimately lowers welfare for everyone.

The coming technological changes and the increase in automation will be leading to significant job loss. Do you think German politicians are even beginning to prepare for this shift in the labor market? The first priority is to improve the education system, to have better qualified people to participate in and benefit from digitalization. Secondly, as you say, technological change is a key driver. Attempting to restrict technological change would be the wrong answer as it would fail. Rather we need to embrace technological change as the catalyst for creating new jobs. But we’re not doing very well in this area. Germany is very good at old, traditional industrial manufacturing, but very poor in the really promising fields, in information and communication technologies, where US companies are leading in almost every area, followed by Asian companies from Korea and Japan. The big challenge is how to embrace digitalization, how to improve investment, how to help start-up companies develop ideas and transform their business models. We need to further improve German research and development, in particular in the sectors of the future. That is of the highest priority. The government is doing too little. If you look at digital infrastructure, Germany’s is very poor – one of the worst digital fiber-optics infrastructures in the Western world – and that certainly will be an impediment to growth.

Is Chancellor Merkel pointing to the size of the challenge when she suddenly talks about the end of the combustion engine? Yes, in a way. This transformation is very hard to achieve, because the German export companies, above all automobile companies, have been doing very well. But in five, ten, fifteen years their current business model will be massively under threat. From autonomous driving to electro-mobility, German car manufacturers aren’t well equipped to drive those changes, and the next government urgently needs to prepare the economy by providing a first-class infrastructure and by setting the right regulatory framework, for instance by pushing electro-mobility.

What should be the new government’s priority at the European level? Merkel’s and Wolfgang Schäuble’s names are closely linked to “austerity” policies, even though the term is often misleadingly used. The German government needs to understand that all of the issues mentioned earlier – digitalization, infrastructure, trade – those are all European issues. In the past Berlin has been doing things too much on its own – there’ve been too many Alleingänge, we didn’t properly coordinate policy with our European partners and the EU institutions, be it on the Energiewende and the push for renewables, or on refugee policy. I can understand that a lot of our European neighbors are upset with Germany for always arguing that everyone needs to stick to the rules and do their homework, but when it comes to us Germans, we are above the rules and can do whatever we like. I think we need to be more self-critical – and a little bit more modest and honest with ourselves. We need Europe, and the German government needs to take greater responsibility in Europe. I hope the next government will interact more with our European partners and find common solutions, in particular with the French.

Working with France in particular, what should be top on the list? The first priority should be to reform the monetary union, making the euro sustainable. This includes improved policy coordination at the European level, on macroeconomic policies, on fiscal policy, on financial markets, on banks, but also areas I mentioned earlier: digital infrastructure, energy, etc. Second, Europe has to act in a more united fashion at the global level. Be it G7, be it G20 – the EU, Germany included, is punching massively below its weight if it doesn’t speak with one voice. At the moment it’s too easy for the Americans, the Chinese, and others to play one European country off against the other.

Is Brexit a worry? From a European perspective, I wouldn’t put it at the top of the list; for the United Kingdom of course it’s the number one issue for years to come. I think the objective of any agreement with the UK must be to not weaken the EU. The aim shouldn’t be to punish Britain, the EU should pursue a very objective approach. But the bottom line should be that a future agreement with the UK does not undermine the EU. Otherwise my big worry would be Italy, where not only the Five Star Movement or the Northern League but also Silvio Berlusconi and his Forza Italia have started talking of leaving the euro, of having a referendum on EU membership – we must make sure those forces aren’t encouraged, as that would be a big threat. The EU cannot function if everyone is pursuing narrow national interests.

Now that the United States under President Donald Trump is no longer championing free trade, can Europe – with Germany at its core – step into this void? And should it? Yes. Europe, and Germany in particular, are benefiting from free trade much more than most other countries, certainly more than the United States; the US is a far more closed economy. But trade policy is set by the EU, and Berlin shouldn’t meddle with it as it did recently by trying to regulate foreign direct investment (FDI) on the national level. That’s another example of the German government ignoring EU competences. My worry is that Germany itself is protectionist as is expressed by the huge trade surplus which is causing a great deal of concern internationally. Germany needs to take this criticism seriously. Protectionist tendencies are mostly prevalent in the services sector, but if you look at what’s been happening in the automobile sector, the German government has certainly been acting protectionist there too, by not holding the big companies accountable, by not making them stick to the rules. So we should champion free trade. The opportunities for European and for German companies are huge, in particular in Asia which is where the future lies. The EU should push for trade liberalization by concluding new bilateral trade agreements through multilateral trade agreements even with the US. TTIP may be a political non-starter right now, but in the long run a US-EU agreement is absolutely inevitable if you want to secure jobs and prosperity.

― interview conducted by Victoria Campion and Henning Hoff