"You won’t find a lot of Keynesians here,” explained one German economic policymaker in Berlin in September. That will not be news to anyone who has spoken to his counterparts in Washington. In their view, Germany is a skulker, a rotten citizen of the global economy, the macroeconomic equivalent of a juvenile delinquent, or worse. It is a smart aleck in the emergency ward that is the global economy. It is a flouter of the prescriptions of the new Doctor New Deal who sits in the White House.
Germany has been scolded, even browbeaten, by Obama administration officials, from Treasury Secretary Timothy Geithner on down, for saving too much and spending too little. It has refused to stimulate its economy as the United States has done, on the grounds that the resulting budget deficits would not be sustainable and the policies themselves would not work. Administration officials have not been the only ones to warn the Germans about the path they’re on. On the eve of last summer’s G‑20 summit in Toronto, the economist and New York Times columnist Paul Krugman gave an interview to the German business paper Handelsblatt in which he said that, while Germany might think its deficits are big, they are peanuts “from an American viewpoint.” Germany cannot say it wasn’t warned.
And now the consequences of Germany’s waywardness are clear. Germany’s growth in this year’s second quarter was 2.2 percent on a quarter-to-quarter basis. That means it is growing at almost 9 percent a year. Its unemployment rate has fallen to 7.5 percent, below what it was at the start of the global financial crisis—indeed, the lowest in 18 years. The second-biggest Western economy appears to be handling this deep recession much more effectively than the biggest—and emerging from it much earlier.
This means that something in our economic dogmas is probably false. Perhaps the policies of Keynesian stimulus favored by the Obama administration are simply misguided, and Germany is reaping the benefit of not pursuing them. Perhaps Germany is pursuing a stimulus, albeit in a lower-key and harder-to-measure way. Perhaps, when an economy is as globalized as ours now is, stimulus will not really work unless it is pursued uniformly across countries. All of these explanations are partially true.
Even before the present financial crisis, Germany and the United States were thought of as embodying two opposite dispositions on matters of monetary policy and fiscal discipline. Both dispositions were the product of history. Germany was the archetypal inflation-fighting country. That is because, when it tried to inflate its way out of the reparations payments imposed on it after World War I, it lost control, as countries that print too much money usually do. The result was people carting around trillions of marks in wheelbarrows to buy a ham sandwich.
The United States, supposedly, has had more to fear from deflation. The late nineteenth-century deflations brought misery to farmers and William Jennings Bryan to national prominence. But since most macroeconomists are idolaters of both John Maynard Keynes and Franklin Delano Roosevelt, the lesson they prefer is that of 1937, when FDR “withdrew stimulus too fast” and plunged the United States back into depression. There are two problems with this argument, one historical, one theoretical. First, government spending fell by very little that year, as Amity Shlaes and others have pointed out—less than 1 percent, by some calculations. Second, if four years into the New Deal was too soon to cut spending, then a fan of the New Deal is likely to believe it’s always too soon to cut spending. Stimulus plans seem to work that way.
Chancellor Angela Merkel does have typically “German” worries about deficits. They are heightened by a new factor—demographic decline. In a country with a shrinking population, deficits are more dangerous than they would be otherwise—you need much higher per capita growth to get yourself out of the hole you have dug.
Cultural biases aside, German policymakers do think the United States is misguided as a matter of economic reasoning. “We think they’re wrong,” says one top official. “We think you don’t get the multiplier they say.” The multiplier is the measure of how much economic activity results from emergency government spending. Discussions of the multiplier were at the center of the debates over the Obama stimulus plan. Christina Romer and the president’s other economic advisers argued that the multiplier would be around 1.6—the government would create $1.60 worth of economic activity for every dollar it spent. At those rates, who can afford not to stimulate? “Our research says the multiplier is more like .60,” says the German official. If he is correct, then a stimulus plan can actually deaden an economy rather than stimulate it. If he is correct, you might have been as well off to have taken the stimulus money and thrown it away.
What he calls “our research” does not mean studies commissioned by the German government. It means academic papers that are either skeptical about stimulus in general or question the long-reigning orthodoxy that stimulus plans based on government spending outperform stimulus plans based on tax cuts. The consensus on these matters is shifting in the academy, too. The Harvard economist Alberto Alesina and his colleague Silvia Ardagna published an influential paper last fall in which they surveyed all the major fiscal adjustments in OECD countries between 1970 and 2007 and showed that tax cuts are more likely to increase growth than spending hikes. One of their most controversial findings—which comes from the work of two other Italian economists—is that cutting deficits can be expansionary, particularly if it is done through “large, decisive” government spending cuts, as it was in Ireland and Denmark in the 1980s. More generally, Alesina has argued that “monomaniacal” Keynesians have focused unduly on aggregate demand.
This is certainly the view of German policymakers. “Three years ago, no supply-side economist, no rational-expectations economist was ready for what was about to happen,” one official says, alluding to two schools of economic thought generally considered conservative. “They were frustrated, disoriented. The Keynesians were not. They said: ‘We have the solution. Run deficits.’ ” It is only now, he says, that non-Keynesian economists are beginning to make a coherent case that that is the wrong way to go about matters. “It’s not as easy as saying: ‘Take on some debt and everything will be fine.’ ”
One should not exaggerate the extent of Germany’s break with the big-spending orthodoxy that has dominated thinking on the crisis in the United States. Germany has stimulated. This is the original “social market economy,” after all, where high wages and lavish benefits were built out of vast society-wide deals between big labor and big business. The system broke down over the course of the 1980s and 1990s, as global competition rose and Germany lacked the resources to both cosset its workers and modernize the backward, ex-Communist economy of what had been East Germany. Wrenching—but highly successful—reforms were made to Germany’s welfare system and labor markets in 2003 and 2004.
But Germany is still, relative to the United States, a kind of social-democratic paradise. The welfare state is still armed with many more programs that kick in in tough economic times and serve as “automatic stabilizers.” Since 2003, these have become more sophisticated and flexible, and better adapted to a globalized economy. Wolfgang Clement, who served as what we would call the “czar” of economic reform under Social Democratic chancellor Gerhard Schröder, says that “these other instruments have been underestimated” in explaining why Germany is recovering from the downturn of 2008 and the United States is not. The system is already highly stimulative.
There is, for instance, Kurzarbeit, a sort of expanded earned-income tax credit. When big German firms are producing below capacity, rather than lay off workers permanently, they cut their hours and their pay, and the government covers much of the lost wages. In stimulative terms, this has helped a lot—it means that consumer spending has not dropped in Germany as much as it has in the United States. (Whether Kurzarbeit would suit the United States under any circumstances is another question. Probably not. A major justification for it in Germany is the looming demographic collapse mentioned above. German businesses are well aware that the next generation will see labor shortages, and that it might be impossible in a boom to find replacements for workers laid off in a bust.)
So when Obama administration officials urge Germans to stimulate, they are wrong, but not for the obvious reasons. It is not that they want to impose socialist programs on a capitalist system that is doing well without them. It is that they want to impose demand-stimulating programs on a system that is already absolutely glutted with them. It is as if the administration’s approach were to take as a baseline whatever any given government happens to be spending, and then to insist that the figure should be, say, 10 percent of GDP higher. This is about as reasonable as assuming your child will be half as likely to get pneumonia if you send him off to school wearing two down parkas.
On top of its automatic stabilizers, Germany has engaged in the sort of big, one-shot expenditures that we tend to associate with the word “stimulus.” It spent 84 billion euros in the wake of the financial collapse. It has made its largest tax cuts in 16 years, according to government officials, which have been releasing 22 billion euros a year into the economy. What is more, German exports have been growing more slowly than imports, which results in an incidental “demand boost” to the global economy of $74 billion, according to Hans-Werner Sinn, the country’s best-known budgetary economist.
Merkel made some concessions to the U.S. position after the Pittsburgh G-20 summit in 2009. But she urged ending any one-shot stimulus programs in a timely way. Two years seemed to her a good deadline for unraveling such programs, first the fiscal and then the monetary ones. German economists have defended her position. “When, if not now, should the state begin to save?” wrote Sinn over the summer. Like many Germans, Sinn is nervous about the effects of U.S. deficits on the global economy. Washington’s promises of savings are vague, abstract, and deferred. Sinn believes the United States is merely “seeking allies for its own debt policies, which have surpassed any justifiable level.” The U.S. budget deficit is 12.5 percent of GDP. Forty percent of the federal budget is being financed by borrowing, and most of that borrowing is being done abroad. “Where all this will lead to,” Sinn writes, “heaven only knows.”
As the world’s second-largest exporter after China, Germany is more entangled with the fate of the world economy than any other country, possibly including China. One of the striking surprises in a visit to government offices in Berlin is the attention Germans are paying to the views of David Cameron, the new British prime minister, on the international economy. Cameron has surrounded himself with fiscal hawks. The government’s recently published spending review calls for cutting the size of government by a seventh in the next five years.
Although he backed Gordon Brown’s bank rescue plan in the immediate aftermath of the bank bailouts in 2008, Cameron, who is as widely read in economics as any Western leader, has an analytical objection to stimulus. It is that stimulus leaks. His understanding of our predicament seems to be roughly this: Some countries have current account deficits. That is, they import a lot more than they export, and cover the difference by borrowing money abroad. The current account deficits of the United States and the United Kingdom are spectacularly, dangerously large. Those deficits are a measure of the amount of credit that used to be sloshing around the U.S. economy. They helped crash the financial system, leaving people with less money to spend, which in turn threatens further economic contraction. To avoid that contraction, the government can stimulate, and if it does, people will keep buying things. But there is a problem: Why should their buying habits differ from the ones that got us into this mess in the first place? All you do by stimulating is prop up real estate prices at ultimately unsustainable levels and keep the flow of junky toys coming from China.
This, it seems, is the light in which Sinn and Germans in positions of power in Berlin understand the U.S. bullying on stimulus. Think of the global economy as a big, glitzy barroom. The Obama administration sold the stimulus (successfully) to Congress and (unsuccessfully) to the public at large as a way of getting us more drinks. But, in a global economy, what we are doing is standing rounds for the entire establishment. U.S. policymakers have come to realize that if other patrons don’t start standing rounds, too, we’re going to run out of money soon. Hence the tendency to cast the nonstimulators as a bunch of ungrateful jerks. Germany is suggesting a different view: Maybe everyone ought to mind his own business and buy his own drinks.
This is consistent with Germany’s approach to its other big economic headache. Over the past year, the Greek government’s creditworthiness has been blown down in a hurricane of political corruption scandals. Until a bailout plan was arrived at early this year, the fate of the common European currency, the euro, seemed to be in question. Germany has been a big beneficiary of the euro—its willingness to surrender its stable currency, the deutsche mark, allayed French worries about Germany’s ambitions and made the country’s reunification possible after 1990.
Germans see this. Still, they have been unwilling to turn the EU into a “transfer union” in order to prop up mismanaged countries like Greece, particularly after Bild and other German tabloids began describing how Greece allowed its workers to retire a decade earlier than German ones, and noted that the highest concentration of high-end Porsches in the world was to be found in Athens, supposedly broke and in need of German handouts. Merkel acceded to a package of loan guarantees after considerable arm-twisting by other European governments (and after Geithner called finance minister Wolfgang Schäuble, according to German sources, with the news that the Greek situation was making itself felt through a sell-off in U.S. bank stocks). But Germany continues to block every effort to create common European debt instruments, and to urge that any rescue plans be built around haircuts (losses for bondholders) rather than third-country bailouts.
Germany’s economic dependence on exports has left it correspondingly entangled in multilateral institutions. But there has been a change in Germany’s stance towards the world in the past half decade. For a half-century after World War II, Germany had to reestablish its credentials as a civilized country. This meant deferring to France on matters affecting Europe and deferring to the United States on matters affecting international security. But now Germany has been a pillar of good global citizenship for 65 years. The natural consequence is that Germany claims considerably more leeway to act in its own interest. We may regret the end of German docility, but we should not pretend to be mystified by it. In a sense, Barack Obama is relearning the lesson that George W. Bush learned in the run-up to the Iraq war in 2002 and 2003. Germany showed then that it would not support a war it didn’t believe in just to show itself a nice guy. It is not going to bail out floundering foreign economies to show itself a nice guy, either.
Christopher Caldwell is a senior editor at The Weekly Standard.