The Importance of Economic Policy for Germany


“ Those who can non retrieve the yesteryear are condemned to reiterate it. ”

60 old ages after the Great Depression, history seems to reiterate itself once more.

Bing one of the largest economic systems worldwide[ 1 ], Japan ‘s deflation has caused tremendous perturbations in the planetary economic system.

Two decennaries subsequently, the Nipponese economic system has non to the full recovered yet and continues to endure from high debts and deflation[ 2 ].

But what caused the rapid ruin of the Nipponese economic system get downing in December 1989 with the sudden bead of the stock monetary values and what are the effects of this tragic phenomenon?

In this essay I want to analyze the Nipponese crisis by utilizing some theories to turn out my debate.

Beginning of the Bubble

Like Germany, Japans economic system experienced a monolithic roar after World War 2.

The cardinal constituent of this post-war economic miracle and changeless GDP growing was a displacement of focal point from a industries to a service province ( californium. Fig.1.1 )[ 3 ]

Many people argue that the activator of the tremendous roar in the 80s is caused by low involvement rates which determined a high demand of money for investing.

However, as a consequence of this determination by the Bank of Japan, the monetary value degree of stock- and existent estate market rose enormously excessively. Harmonizing to the OECD the belongings monetary values rose from 1985-90 by about 75 %[ 4 ]. ( californium. Fig.1.2 )

Besides the stock market was detonating. The Nikkei-225 rose from the early 80s to Dec. 1989 for more than 800 %[ 5 ]( cf.Fig.1.3 ) .

The Bubble Explosions

Excessive rising prices of plus monetary values ( besides called “ bubble economic system ” ) eventually led to a deflation spiral.

More money was demanded by people and company in order to pay for their stocks and existent estates[ 6 ]. The consequence was high debt by private families and authorities ( californium. Fig.2.1 ) .

Therefore the Bank of Japan ( BoJ ) decided to present ingestion revenue enhancement and other fees. The authorities besides increased the involvement rate from 2.5 in 1989 to 6.0 % 1990 in order to chill down the overheated boom. ( californium. Fig.2.2 )

Soon, the buying power was shortened due to unrealistically high monetary values and Inland Revenues.

The deficiency of demand for goods and services forced companies to fire employees. Since 1990 the unemployment rate was characterized by a steady growing to a extremum of 5,5 % in 2004. ( californium. Fig.2.3 )

No income for the worker, led to even less domestic ingestion. The deflation easy develops as the aggregative demand is acquiring lower than the aggregative supply.[ 7 ]

A Debt- Deflation Scenario

In this Debt- Deflation Scenario, companies were constrained to sell their existent estates in order to pay debts and prevent themselves from bankruptcy. Harmonizing to Irving Fisher, this will finally take to more pessimism and misgiving of the economic system. At the same clip it will increase settlement and losingss for families and houses. In the terminal it will cut down the speed of money,[ 8 ]doing the deflation spiral to whirl and hike by itself.

The longer money remain unexpended, the higher is normally the deflation rate, since people instead decide to salvage alternatively of spend their income.[ 9 ]

Another manner to show this phenomenon is by adverting the Cambridge-Equation ( M = k x P x Y ) . In the early 90s the sum of money ( M ) was kept at a changeless rate, based on a high premier rate around 6.0 % , and loan defaults ( Credit Crunch ) for companies and private due to monolithic non executing loans ( NPL ) that occurred in the fiscal system[ 10 ]. At the beginning of the crisis nevertheless the existent GDP ( Y ) in 1990 was still turning by around 5 % ( cf.Fig.2.4 ) . If we add these factors to the Cambridge-Equation, we can see that both monetary value ( P ) and continuance ( K ) has to diminish in order to make equilibrium. In other words, a about changeless sum of money ( M ) in the state and an addition of existent GDP ( Y ) would coerce a lasting deflation in the close hereafter[ 11 ]. This anticipation was confirmed by a tragic historical period of deflation in Japan called “ the doomed decennary ” ( 1990-2000 ) .

During this clip, consumer had no trust in the Nipponese economic system and get down maintain their nest eggs. Even to this twenty-four hours, consumer assurance remains really low and has n’t recovered to the full yet.[ 12 ]

2.2. Caught in the Liquidity-Trap

Another interesting point to analyze is the low premier rate in Japan which kept diminishing from above 8 % in 1991 to about zero per centum boulder clay today ( cf.Fig.2.2 ) . A logical account would be the addition of investings by companies, caused by the fact that money is “ inexpensive ” . Harmonizing to J. M. Keynes nevertheless, when the involvement rates are close to zero, companies and people normally expect deflation and are non willing to put due to such a low premier rates.

Keynes calls it a “ Liquidity trap ” which makes it impossible for instruments of the pecuniary policy to set up a healthy economic system.[ 13 ]

Till present twenty-four hours, the Nipponese pecuniary policy remains a major job of the authorities. Banks are still sluggishly demanding for money.[ 14 ]

Analysis and possible Redress for the “ Lost Decade ”

Japan ‘s “ lost decennary ” can be characterised in 3 chief characteristics.

The Crisis ab initio started with a strong economic growing similar to the Great Depression in 1929. However it was merely a affair of clip until the bubble explosions, which caused mass unemployment.

The 2nd characteristic is the monetary value deflation, followed by a monolithic deficiency of demand. The economic system was haunted with the slogan “ Any purchase might be cheaper in future ” .

The 3rd cardinal feature is the durable banking job. Particularly the accretion of non executing loans in 1997 urged many bank into bankruptcy[ 15 ].

Milton Friedman one time said: ” The Great Depression, like most other periods of terrible unemployment, was produced by authorities misdirection instead than by any built-in instability of the private economic system. ”[ 16 ]

I my sentiment, this quotation mark is true when mentioning to the Nipponese Depression 1990.

The Nipponese authorities made a batch of errors which caused deflation to turn.

First of wholly, the province should hold introduced a debt brake earlier before debt has grown bigger and bigger. The 2nd error was the decrease of premier rate to about nothing. This action left pecuniary policy no room to run freely.

The 3rd important error was the state-aided stimulation bundles for the Bankss. Personally I think it is non plenty to merely give out stimulation bundles. What Japan needs is a general overhauling: A alteration in policy that will alter the complete economic system and construction in order eliminate the concern wonts of the 90s and set up an attractive environment for demand to boom. This is the lone manner how Japan can travel out of the “ debt trap ” .

Assessment 2 Germany 1990


The success of states economic system has ever depended on its ain historical and political development.

Therefore, it is no surprise, that the development of Germany ‘s demand-driven economic policy was to a great extent affected by the reunion in 1990 and the initiation of the European Central Bank ( ECB ) in 1998.

The fact remains that Germany is the 6th largest economic system worldwide and the largest in the European Union.[ 17 ]

How much of a function did pecuniary and financial policy drama in making such success?

Importance of Economic Policy for Germany

It is beyond any uncertainty that the use of economic policy straight influences macroeconomic factors.

Therefore, financial policy, an instrument of the German authorities can straight command employment, pay, public debt, etc.

Monetary policy on the other manus, the undertaking of the German Federal Bank ( GFB ) until 1998 and subsequently assumed by the ECB is able to command the supply of money, involvement rate, etc.

Therefore, it is possible to excite an economic growing with the optimized interaction between pecuniary and financial policy.[ 18 ]

2. The Impact of Fiscal and Monetary Policy

2.1 Challenges for Fiscal Policy

The German financial policy is based on the “ Stability Law ” ( A§1 StWG ) which was ratified in 1967.

Goal of this act is to forestall strong cyclic fluctuation in order to accomplish an overall economic equilibrium. This end can be separated in four sub-goals called the “ Magic Square ”[ 19 ]

The first sub-goal is monetary value degree stableness, which is really portion of the pecuniary policy. Harmonizing to the ECB, a stable economic development can be achieved if the Consumer Price Index ( CPI ) is below 2 % .[ 20 ]Since 1990, the authorities was forced to diminish their CPI in order to set the convergence standard of the ECB. ( californium. Fig.2.1 )

Second sub-goal is the necessity to accomplish a high degree of employment. Labour market reform like the investing benefits in the early 90s or Hartz IV in recent old ages has prevented the ruin of unemployment and provided positive economic growing.

Third sub-goal is the balance in foreign trade in order to keep independency.

Achieving this end has ne’er been a job for the German authorities. Germany claimed the rubric “ World export title-holder ” during 2003-2008 ( californium. Fig.2.2 ) , supported by the advantages of the European Single Market.[ 21 ]

The last sub-goal demands a stable and appropriate growing of GDP by 3 % p.a. By and large this end was reached by Germany, except from 2001-2003 when the Dotcom-Crisis struck and once more from 2008 till present twenty-four hours in the class of the planetary finance crisis.[ 22 ]( californium. Fig.2.3 )

The reunion in 1990 seemed to be a huge challenge for financial policy to run. The roar in West- ought to counterbalance the economic troubles in East Germany.

Therefore, East Germany received many subventions like the “ Solidaritatspakt I & A ; II ” ( est. 1993 ) which is money to counterbalance their deficiency of substructure, productiveness and fiscal load. The authorities besides established better basic conditions for investing, which led to an addition in employment and stronger economic growing in East Germany in the long tally.[ 23 ]

This eventually led to a 102 % addition of gross rewards within the following 20 old ages. ( californium. Fig.2.4 )

These accommodation processes nevertheless, have left Germany to a great extent indebted for the undermentioned old ages. ( californium. Fig.2.5 )

An intensive financial policy was performed in 2008/2009 as a reaction to the planetary finance crisis which started in 2007. Goal of this so called “ Economic stimulation bundle I/II ” was to forestall a unsafe recession followed in 2009.

Content of this bundle was amongst other things, an income revenue enhancement decrease from 15 % -14 % , in hope to raise the domestic buying power. Germany will besides put 14 billion Euro in societal and proficient substructure till the terminal of 2010, environmental premium for new autos, premium rate for statutory wellness insurance is decreased by 0,6 % , etc.[ 24 ]

With these economic urges, the authorities expects a multiplier consequence which will pull more investing which will once more raise ingestion taking to an addition aggregative demand at the terminal.[ 25 ]

The province besides hopes that the consequence of the multiplier consequence will trip the gas pedal consequence which leads to more investings due to supply-shortfalls. This scheme will better the economic system in the long tally.

This anti cyclical economic policy proofed to be effectual but besides bears the effects of high debt in 2009 and 2010. ( californium. Fig.2.6 )

2.2 Monetary Policy and the ECB

Monetary Policy besides plays a major function in Germany ‘s economic system.

Main end of pecuniary policy is to set up monetary value degree stableness. This can be achieved by increasing the entire supply of money ( expansionary policy ) , diminishing the entire supply of money ( contractionary policy ) , or through ordinance of the premier rate.[ 26 ]

Shortly after the reunion in 1990, the GFB was affected by an expansive pecuniary policy due to to a great extent increased outgo, monolithic transportations to the East and the extension of national and budget shortages. The GFB reacted by increasing the price reduction rate to 8 % in 1991 leting them to successfully forestall a high inflationary development. ( californium. Fig.2.7 )

However, from 1992-1996, the rising prices rate fell drastically ( californium. Fig. 2.8 ) due to this high price reduction rate and led Germany fell into recession during that clip.[ 27 ]

In the 1998 pecuniary policy was issue of the ECB. In the same twelvemonth, the CPI dropped below 1 % . ( californium. Fig.2.9 ) By diminishing the premier rate, the ECB provided adequate liquidness to spread out the volume of recognition for economical growing.

In 2000 the ECB steadily increased the base rate. Reason for this phenomenon was the rise of the oil monetary value, increasing import monetary values and high GDP growing rate which was a hazard for the monetary value stableness. This factors eventually tumbled Germany into depression for the following three twelvemonth.

From 2003-2006 the base rate has been kept at a low 2 % due to the slow recovery of the European economic system.[ 28 ]( californium. Fig.3 )

When the fiscal crisis hit the economic system in 2007, the ECB was confronting a serious job. Within a few months, they dropped the base rate from 4 % to 1 % . Additionally they bought one million millions of European authorities bonds in order to supply liquidness for the market.

These actions will maintain Europe from come ining a deeper stronger recession, and do manner of a new economic roar.

3. A Response to Germany ‘s Weak Growth Performance

Germany ‘s low economic growing in the past two decennaries is most likely caused by three unnatural grounds. The reunion was a hard challenge in order to keep an effectual economic policy[ 29 ]. Monetary and financial policy was restricted in order to suit the Maastricht standards. The constitution of the European Single Market and the ECB are still get downing and necessitate more clip in general to develop higher overall efficiency.

Still, the influence and urge on the economic system of pecuniary and financial policy are effectual and clearly noticeable. History shows us that these two are necessary instruments for supplying non merely sustainable economic growing but besides in keeping a societal province like Germany.

Assessment 3 Hartz IV


The rubric of Germany being a public assistance province is surely well-deserved. This fact is non merely deep-rooted in the German fundamental law[ 30 ]but besides reflected through the action of its politician.

One of import construct of the Germany authorities is the so called “ Hartz IV reform ” which was established in 2005 in order to cut down the serious job of unemployment.

In this essay I want to analyze the effectivity of the Hartz IV reform on the state of affairs with unemployment in Germany utilizing the Neoclassical and Keynesian position.

1. Germany as a Welfare State

Germany ‘s societal market economic system characterized by Ludwig Erhard with the slogan “ Prosperity for All ”[ 31 ]proved to be really successful and led Germany to an economic miracle in the post-war epoch.

However, in the class of the German reunion in Oct.1990 unemployment started to increase and make its extremum at more than 12 % in 2005[ 32 ]. ( californium. Fig.1.1 )

In the same twelvemonth the Hartz IV reform came into consequence, which is an act by the Social Democratic Party of Germany.

Nowadays, there are about 6.7 million people dependent on this indispensable public assistance construct[ 33 ].

2. Hartz IV Reform on the Labour Market

2.1 Contentss and Aims of Hartz IV

The purpose of Hartz IV is based on the major rule of a public assistance province like Germany. Goal is to promote preparedness for work and labour productiveness but besides provide equality of chances and reintegration of unemployed and long-run idle individual.[ 34 ]

This new reform wholly restructured the labor market through making more mini-jobs ( 400euro per month ) , Job Centers which are installations for supplying personal advices, aid and other helpful services for unemployed and the debut of a so called “ Ich AG ” to actuate idle become freelance through province benefits.

The benefit payment for a individual grownup is presently 359 Euro plus rent payment for an appropriate lodging[ 35 ].

2.2 Taking a Neoclassic position

Confronting the job of unemployment, from a neoclassical point of position, the labor market will make equilibrium of course in the long tally.[ 36 ]

However, these conditions are non given if we want to use neoclassical theory on the labor market in Germany.

First of wholly, there is no perfect competition on the labor market.

This premise is based on three facts. Due to globalisation there are a high figure of interregional migrations, who frequently works for lower rewards.

Particularly in Germany, we besides see the phenomenon of intraregional migration ( e.g. East to West ) . The grade of urbanisation is significantly stronger so the words norm[ 37 ], which besides leads to differences in payments harmonizing to the Harris-Todaro theoretical account[ 38 ].

The 3rd statement refers to the theory of Reinberg and Hummel, which analysis the pay derived functions of different accomplishment types ( californium. Fig.2.1 ) . Therefore it is obvious that insufficiently qualified workers easier become unemployed so skilled one[ 39 ].

Furthermore the demand of flexible pay is non given on the labor market in Germany. For every subdivision there is a fixed lower limit pay, and the brotherhoods will non needfully accept lower rewards in order to make equilibrium.[ 40 ]

Another incompatibility is that voluntary unemployed individuals exist.

An illustration is shown in figure 2.2 with following account:

For case, the minimal pay is 10 Euro. That would extent supply to Q2 and contract demand to Q1. Now, there are low skilled worker able to work for 8 Euros/h. This would make a new equilibrium and at the same clip disheartenment for the skilled ( between Q1 and Q2 ) to work.

In this context, I would wish to advert another ground for voluntary unemployment caused by Hartz IV. Mentioning to a WELT newspaper article, many low-income earners are oppugning their attempt to work, because through Hartz IV they will acquire the same sum of money or even more than working an 8 hr displacement.

Harmonizing to the neoclassical theory, the German public assistance province causes their ain job of unemployment through authorities intercession by making legal minimal rewards and presenting benefits like Hartz IV for unemployed. In order to cut down unemployment, the province must get rid of lower limit rewards, societal security benefits and power of trade brotherhood. In this manner, the labor market will make equilibrium in the long tally.[ 41 ]These steps nevertheless, would wholly belie the German fundamental law as a societal province.

2.3 What did Keynes state?

The economic policy of Germany would instead suit, if we analyse the job of unemployment and Hartz IV from a Keynesian position.

Keynesians are naming for a strong politico-economic province. The authorities should take control of the economic system by extinguishing market perturbations in order to supply balance of the labour market.

To Keynes, labour demand and supply will merely run into by opportunity, because there are many factors act uponing the labor market.[ 42 ]This theory more likely applies to Germany ‘s state of affairs and the debut of the Hartz IV reform as a important province intercession.

Keynes did believe, that in the long tally the labor market may rectify itself. However he doubts it with the quotation mark: “ In the long tally we are all dead ” ( Tract, p. 83 ) .

Another of import theory illustrates the tradeoff relationship between unemployment and rising prices through the so called “ Phillips curve ” . In 2008 there was a high rising prices rate in Germany ( californium. Fig. 2.5 ) and at the same clip low unemployment.

In this context, Keynes mentioned that economic or pecuniary policy like the Hartz IV reform has a long term influence on employment but no a direct influence on rising prices. Inflation is merely illustrated as the nucleus rising prices.[ 43 ]

3. The Achievements of Hartz IV

After presenting the Hartz IV reform, the unemployment rate in Germany was clearly decreased.

Questionable is, if this ruin was caused by Hartz IV or due to the world-wide economic roar. Another facet to see is the definition of employment.

Harmonizing to the ILO, 1-Euro Jobs or Mini Jobs ( soap. 400Euro/month ) are included every bit employment as good[ 44 ]. In figure 2.6 and 2.7 we can see that the sum of part-time and mini occupations is increasing but full-time occupations were decreased. Still this fact can take to an addition of employment.

Critics say that Hartz IV is counterproductive, as it creates many voluntary unemployment and costs for societal benefits has about doubled since its constitution.[ 45 ]

Fact is that the accomplishment through Hartz IV is by far non clear plenty so the authorities expected 5 old ages ago.