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Thursday, October 7, 2010

Comment on Michael Warren: Why Germany’s Unemployment Rate is Lower

Michael Warren in his article “Why Germany’s Unemployment Rate is Lower” concludes that Germany’s practice of Kurzarbeit (“short work”) is a primary factor behind Germany’s shrinking unemployment rate. On this, see:

Kurzarbeit has been a part of German labor legislation since the days of Bismarck and the Weimer Republic. It was used on a massive scale in Eastern Germany after reunification, but its use as a counter-cyclical measure in 2008 and 2009 was unprecedented. Some 1.5 million German workers were on Kurzarbeit in this period. The number is currently about 800,000. If all Kurzarbeiter had been unemployed, Germany unemployment rate would almost have doubled.

We can contrast Germany’s Kurzarbeit with the implicit wage contract model used with negative effects by the U.S. auto and steel industries. With Kurzarbeit, a cyclical downturn means a reduction in work hours. Workers continued to be paid their regular hourly wage, but earn less because of the fewer hours. The lower earnings are subsidized around 60 percent by unemployment insurance and other subsidies. In the U.S. implicit wage contract model, cyclical downturns mean layoffs. Laid off workers do not seek other jobs because they are paid well above market wages, and it is better for them to wait to be recalled. Moreover, they receive unemployment benefits to cushion the income loss of the layoff. In both cases, employers benefit by not losing skilled workers who would have to be replaced with costly job searches and training during the upturn.

The Germans are learning that Kurzarbeit is not a panacea. Like U.S. unemployment insurance, it subsidizes not working and makes it more attractive. Like in the United States, political pressure results in extensions of benefits; so that Kurzarbeit threatens to become a permanent feature of the labor market even during upturns. Evidence of this is the fact that Kurzarbeit has spread into economic branches that were not affected by the downturn.

I would venture that Kurzarbeit is only one of several factors that explain the falling German unemployment rate. Other factors that could be equally as important are the growing use of Leiharbeiter (rent-a-workers) and the pretence that employees are independent contractors. Leiarbeiter are “rented” from intermediaries and can be hired and fired at will. Sham independent contractors (a prime example is truck drivers who “lease” their truck from their employer) fall outside of Germany’s strict and cumbersome rules on employee firing.

Why is it that Germany, with its Sozialstaat, has become so innovative in making its labor market more flexible? The German economy relies on export markets and is located next to cheap labor markets in the East. If German firms cannot compete with lower wage markets, firms and jobs leave Germany. There is therefore incredible pressure to find innovative ways to compete in export markets. Formal German labor market rules not only impose huge social benefits costs on employers. They make it very difficult to lay off or fire workers during downturns. For this reason, German companies are reluctant to hire new employees into jobs governed by these rules. Were it not for Kurzarbeit, Leiharbeit, and independent contracting, German unemployment would today be higher than those of the United States.

Germany is, in effect, becoming a dual labor market in which a shrinking number enjoy the vast benefits of the Sozialstaat and a growing number are working in highly competitive labor markets.

In addition to other responsibilities, the author is a Research Professor at the German Institute for Economic Research, Berlin.

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