Germany reformed its social model. Europe can, too

Written by Bloomberg | Updated: Apr 19 2012, 07:53am hrs
Josef Joffe

Forget Europes debt disaster for a moment and look instead at a few numbers that dramatise the underlying problem. Unemployment in the euro area just climbed to a record of almost 11%. Do we blame the financial crisis and its aftermath Europe didnt do much better before 2008. Even before the crash, the jobless rate was stuck at between 7% and 8%, not exactly full employment. So Europes problem is older than the fall of the House of Lehman.

Now slice the data another way. Eurostat, the European Unions statistics agency, estimates that euro-area growth will be just below zero this year. The US is chugging along at almost 3%, while unemployment there is finally heading down. So Europe is doing a lot worse than the US in climbing out of the post-crash recession.

Whats holding Europe back Is it austerity, a wave of rabid spending cuts, that makes the economy so anemic Not really. After the crash, the euro area went into heavy deficit spending, which peaked at 6.4% of GDP in 2009. Last years figure was a bit less, at 6.2%. That kind of public profligacy is hardly austerity; its twice the rate allowed under the EUs Stability and Growth Pact, the Holy Writ of monetary union.

Its the micro-economics

The message, then, has to be: Its the micro-economics, stupid! Its about the usual suspects: unresponsive labor markets; privileged groups, such as public-sector unions and sheltered professions, cultural taboos that brake innovations in areas such as bio-engineering, constraints on competition such as high barriers to market entry and subsidies that keep dying companies alive, and high welfare payments that reduce work incentives.

A number that pulls all this together is Europes 22% aggregate youth unemployment rate. It bespeaks a two-tier labour market, in which the happy insiders enjoy virtually lifetime employment at mandated high wages, while the young outsiders cant get in. If they are lucky, they snag a temp job or an internship. If not, they go straight from school to the dole.

But what about Germany Isnt Berlin the stellar exception Indeed, its budget shortfall has plunged to 1% and its unemployment rate has plummeted. So, Teutonic discipline works. Joblessness now stands at 5.7%, while Frances is almost twice as high at 10%, according to Eurostat figures. What are the Germans doing right

The short answer is Agenda 2010, a package of reforms laid out by the government of Chancellor Gerhard Schroeder. In the decade before these changes took effect, 5 million people were out of work (compared with fewer than 3 million now). Germany trailed everybody else in growth. It kept breaching the 3% deficit limit prescribed by the Stability and Growth Pact. The social-security system handed out more than it took in. So on 14 March, 2003, Schroeder went Churchill, delivering his own blood, sweat and tears speech to the Bundestag. We will have to cut benefits, he said. We shall promote individual responsibility. And our guiding principle will be that we can only redistribute what we have earned.

Page from workfare

The lavish welfare state, he meant to say, was yesterday. Patients would now have to make co-payments for medical services. The old crafts system, a medieval legacy that protected insiders, would have to yield. Labour unions would have to climb down from rigid nationwide collective bargaining and accept more modest shop-floor agreements geared to a companys profitability. The growth of pension benefits would have to slow. Capital-gains taxes and the top marginal rate of income tax were cut.

The core of Agenda 2010 was a welfare reform that took a page from Bill Clintons workfare legislation. Unemployment benefits were limited to 12 months. After that, the able-bodied would have to make do with a bare minimum. The basic idea was to get people off unemployment benefits by making them look for work. To help them, the new Federal Employment Agency would counsel, retrain and place them. It worked.

Yet it was Schroeders successor, Angela Merkel, who would reap the rewards. In 2005, Schroeders Social Democratic Party was punished at the polls, and Germanys Churchill lost his job to Frau Merkel. She has been chancellor ever since. The lesson is a sad one: To do well for the country is to do badly for yourself. In Spain, the reformist government of Jose Maria Aznar fell in 2004. Tony Blair, who opted for Thatcherism with a Labourite face, went out in 2007.

Other European leaders, looking at the sorry fates of their comrades-in-power, didnt even try. In France, the government of Jacques Chirac just went into debt to avoid reforming the countrys statist economy. In Italy, Silvio Berlusconi promised the sky, but delivered nothing. The bloated bureaucracy and the frozen labour market stayed in place. Berlusconis mess is now Mario Montis to clean up.

Breaking the mold, it appears, is good for the country but not for those who wield the hammer. Thats bleak testimony to the rock-like nature of the European social model: high welfare, rigid labour markets, sheltered sectors and professions, low adaptability and consistent overspending. Its an environment where the state giveth out more than it taketh in for the sake of social peace, which is a euphemism for more unto each.

Europe speaks German now, the majority leader in the Bundestag, Volker Kauder, famously crowed back in November, triggering a storm of indignation in the U.K. Is it indeed deutsch now for each and all The Greeks, Spaniards, Portuguese and, above all, the Italians are trying to take a crash course in German, reining in expenditures and putting the chisel to privilege and protection. Whether the French will do the same depends on the presidential elections this month and next. The favourite in the race, Socialist Party candidate Francois Hollande, insists on speaking in the old French style, pledging to roll back even the timid pension reforms implemented under Nicolas Sarkozy.

Make it in German or Esperanto, the prescription is the same in every language: Adopt Schroeders Agenda 2010, and adapt it to national circumstances. Europes post-crash crisis has been long in the making; the crash just laid the problem bare. The true roots of Europes troubles are overspending that caused deficits and ran up debtsbad habits that nourished a social model much better at redistributing income than at generating it with improved competitiveness and growth.

Can Germany prod the rest to action, be it by suasion or example To change its economic fate, Europe will have to change its politics and its ancient social contract. If not now, when

The author is editor of Die Zeit newspaper in Hamburg. He is also a senior fellow at the Freeman-Spogli Institute for International Studies and an Abramowitz Fellow at the Hoover Institution, both at Stanford University. Views are personal