Germany: A Brighter Sun In The East

Even as labor unrest builds, East Germany's economy is growing fast

The jubilation that swept East Germany after the fall of the Berlin Wall in 1989 long ago gave way to the sober reality of globalization and market forces. Now a decade of resentment seems to be boiling over. In Eastern cities such as Leipzig or Chemnitz, thousands have taken to the streets since July to protest cuts in unemployment benefits, the main source of livelihood for 1.6 million East Germans. Discontent among reunification's losers fueled big gains by the far left and far right in Brandenburg and Saxony state elections Sept. 19. "People here have long ago given up all hope of a change for the better," Dagmar Enkelmann, a leader of the leftist Party of Democratic Socialism, told a group of voters shortly before the vote.

Such appeals worked: The PDS, successor to the Communists who ran East Germany, won 28% of the vote in Brandenburg, just behind Chancellor Gerhard Schröder's Social Democrats. More alarming, extreme right parties, campaigning with slogans that blame immigrants for the East's economic woes, won enough votes to qualify for seats in the Brandenburg and Saxony state parliaments. The mainstream parties clung to power but suffered heavy losses.

Yet there is reason to believe that the pessimism about the East German economy is overdone. In macroeconomic terms, the East has made huge progress since reunification. East Germany, with gross domestic product growth of 54% since 1991, has outperformed Hungary, the Czech Republic, and Estonia, three other former East Bloc countries often praised for their dynamism. East Germany's biggest problem is the building industry, which is still recovering from massive overinvestment in the early 1990s. Strip out construction, and East Germany has outperformed West Germany every year since 1993, including last year when the West barely grew at all while the East managed 1.6%. "We shouldn't just paint a pretty picture, but we shouldn't pretend that nothing has happened in the past 15 years," says Angela Merkel, an Easterner who is leader of Germany's Christian Democrats -- and possibly the next Chancellor.


Many East German companies now are finding their footing after struggling for years to cope with the transition to a market economy. Schmiedeberger Foundry, a maker of machine tools in Schmiedeberg, south of Dresden, has increased its workforce by more than 50%, to 170 since the mid-1990s, and is recruiting young apprentices. "Now doors are starting to open, and customers are even seeking us out," says Holger Kappelt, the No. 2 executive at Schmiedeberger.

The most successful regions are those where local people adapt traditional skills to the modern economy. The town of Schmiedeberg is building on a tradition of precision metalworking. Dresden has exploited its past as the semiconductor and microelectronics center of the East Bloc to attract global chipmakers Infineon Technologies (IFX ) of Munich and U.S.-based Advanced Micro Devices Inc. (AMD ). The presence of these multinationals helped Saxony grow 1.2% last year. In the city of Jena, historically a center for precision optics, laser-instrument maker Jenoptik expects to report operating profit of at least $55 million in 2004 on sales of $2.2 billion. "Instead of trying to rebuild an old industry we created a new one," says Lothar Späth, Jenoptik's supervisory board chairman.

Scenes of protesters on East German streets may not be the expression of popular anger they seem. A poll by the Mannheim-based Elections Research Group found that the number of jobless people participating is too small to measure. "It's definitely not a mass movement," says Matthias Jung, the polling firm's director.

Schröder's recent reforms, in fact, are doing what they were intended to do -- push people, especially East Germans, back into the workforce. Although out-of-work people deeply resent new rules that force them to get off the dole sooner, take lower-paying jobs, or even move, temporary employment agencies report an uptick in applications. "People know they can't rest anymore on the social services couch," says Ingrid Hofmann, president of Nuremberg's Hofmann Personnel Leasing. The reforms haven't yet cut into the jobless rate, but anecdotal evidence suggests that could change soon.

For many East Germans, the issue is not material well-being, which is undeniably better. The problem is that many have not been able to come to terms with the competitive economy and the feeling that no one in the West values their skills. "A lot of people hoped they could enjoy the fruits of capitalism yet still hold on to the same security. It hasn't worked the way they imagined," says Katrin Sass, an East German film star whose career languished before she starred in the hit film Goodbye, Lenin!

Germany's challenge is to spread the nascent prosperity of places such as Dresden throughout the region. There is no quick fix, but more could be done. Already, East German communities such as Leipzig have slashed bureaucracy to attract business, while workers are willing to put in longer hours and weekends. East German workers log an average of 100 hours more per year than their Western counterparts, according to the Kreditanstalt für Wiederaufbau, a quasi-public development bank, while unit labor costs are 2.6% lower. That's helping the East attract investment and build exports, which account for 25% of the region's output, vs. 14% in 1991. "It's a good bet to set up a new factory in the East," says Michael C. Burda, an American who teaches economics at Berlin's Humboldt University.


Germany could also better spend the $110 billion a year it pumps into the East German economy. Too much has been spent subsidizing megaprojects that didn't pan out, such as the EuroSpeedway in Lausitz, a racetrack that went insolvent in 2002 and now operates under new owners. Economists say the money would be better spent on universities and research centers.

Perhaps East Germany's biggest problem is West Germany. Slow growth nationwide, the result of excessive taxation and rigid labor rules, make it that much harder for the East to grow fast enough to catch up to the West in living standards. "To create more work you need more flexible labor," says Martin Gillo, former head of AMD's operations in Dresden and now Economics Minister for Saxony. The Saxony government has pushed -- so far unsuccessfully -- to make the East a special economics zone that could deviate from national regulations. There is little chance Germany's Socialist-led government will promote economic competition among the states. But such an approach may find a more favorable reception if, as expected, the center-right Christian Democrats take power in 2006. Street protests won't bring the old certainties of East Germany back. But out-of-the-box thinking could help create an East that won't leave its workers stuck on the dole.

By Jack Ewing in Frankfurt and William Boston in Leipzig

Before it's here, it's on the Bloomberg Terminal.