Freakonomics Radio - 304. What Are the Secrets of the German Economy — and Should We Steal Them?

Episode Date: October 12, 2017

Smart government policies, good industrial relations, and high-end products have helped German manufacturing beat back the threats of globalization.

Unless you have managed to totally tune out every American politician, you've probably heard that our manufacturing sector has been crushed. We have had, for the last 30 plus years, disastrous trade policies. We've lost 60,000 factories since China joined the World Trade Organization in 2001. The consensus estimate is that we've lost about 5 million manufacturing jobs since 2000. There are a number of factors, but clearly one of them has been global trade. We estimate that as much as 40% of the drop in U.S. manufacturing between 2000 and 2007 is attributable to the trade shock following

China's accession to the WTO in 2001. That's David Autor, a labor economist at MIT. You may remember him from an earlier episode of ours called Did China Eat America's Jobs? Short answer, yes, at least a good portion of them. Autor points out that there were gains in non-manufacturing sectors, which more than offset the number of lost manufacturing jobs. But these new jobs typically pay less and leave workers worse off. Or as an economist would put it, the reallocation process seems to be slow, frictional and scarring.

The U.S. is hardly alone in losing those good, old, high-paying manufacturing jobs. Many big, old, successful Western economies have suffered the same fate. This downturn has changed our politics in the U.S. We can't continue to allow China to rape our country, and that's what they're doing. And elsewhere. I think you see it, obviously, in the U.K. vote to rape our country. And that's what they're doing. And elsewhere. I think you see it obviously in the UK vote to leave the EU. You're seeing it in other parts of Europe, a spread of this desire to kick back against globalization.

You're seeing it here in this country. But there's one big, rich Western country that's different. We don't hear that sort of anti-globalization, anti-China rhetoric. It's a country whose manufacturing sector has proved remarkably resilient. So the United States, the manufacturing share today is below 9%. I mean, we still have, you know, 22% or 23% of the workers active in manufacturing. It's a country that not only doesn't have a trade deficit, but has one of the largest trade surpluses in the world.

The exporting sector is doing very well. So it's a good sign. So what is this Ubermensch of a country? So at the moment, there's a bit of euphoria in Germany, right? So kind of the economy is doing great. Unemployment has almost disappeared. That's right. It's Germany.

So at the moment, the mood is really good here. But I think, I mean, yeah, Germans are also melancholic people. Today on Freakonomics Radio, how did the German economy go from rubble to rock star? Germany has a very unusual economic geography. Germany is not a shareholder economy. It's a stakeholder economy. In Germany, the unions have representatives on the board of the company. And what would happen if the U.S. tried to copy the German model?

We'll get into all that right after this. From WNYC Studios, this is Freakonomics Radio, the podcast that explores the hidden side of everything. Here's your host, Stephen Dubner. I'd like you to meet Jen Sudekum. Yeah, hello. So I'm professor of economics at Dusseldorf University. His research specialty? And yeah, I do research in international trade. A few years back, Sudakam and his colleagues read the research that David Autor and his colleagues published about the American manufacturing crash.

And I mean, the tone was very negative, right, in the United States, that China costs millions of jobs, puts so many people out of work, led to reduced wages. So basically, we just, you know, wanted to understand if that's also going on in Germany. Sudekum applied the same research methodology to Germany. He found that as in the US, some German industries did suffer a lot

because of low-cost Chinese manufacturing. But... But then on the other hand, I mean, overall, the overall conclusion that comes from our study is much more positive. I think the important difference is Germany just managed to take advantage of this gigantic

export market. The gigantic export market being primarily China. And so overall, if you add both together, that trade basically had zero impact on the manufacturing share itself in Germany. Why was Germany able to find an economic equilibrium that has escaped so many other countries? To find that answer and to appreciate the magnitude of this economic turnaround, we have to go back in time a bit. Let's start just after World War II. And, you know, Germany was basically rubble

and demoralized, obviously for very good reasons, in deep shame. Uwe Reinhart is an economist at Princeton. He was born in 1937 in the countryside near Cologne. And so by and large, we young people had this burden of shame put on our shoulder. We never asked for that, but we had it. And so I sometimes think one outlet is just to work like hell and to say, let's just work and see if at some point we will once again be, the German word is, meaning be fit to invite it to a civilized party. So we worked hard. Everyone worked hard. I remember I worked in Cologne as an apprentice, you know.

Everything was rubble. And then, you know, you saw year by year, oh, here was rubble. There's a new building now. You literally saw Germany sort of grow again. Germany's growth was helped along by American financial aid. Here is U.S. Secretary of State George Marshall, nearly two years after the end of the war, speaking at Harvard, where he was receiving an honorary degree. Ladies and gentlemen, I am profoundly grateful.

Marshall used this occasion to announce a plan to rebuild Europe. The truth of the matter is that Europe's requirements for the next three or four years of foreign food and other essential products, principally from America, are so much greater than her present ability to pay that she must have substantial additional health or face economic, social, and political deterioration of a very grave character. The Marshall Plan sent a lot of money to Europe, the equivalent of more than $100 billion today. And initially, there was a bit of a controversy, I think,

whether Germany in particular should be a recipient of Marshall aid. That's Jeremann Zettelmeier. Until recently, he was a senior official in Germany's Ministry for Economic Affairs. Now he is a senior fellow at the Peterson Institute for International Economics. But, you know, as the politics changed after the war and the Cold War became the most pressing issue, so containment of the Soviet Union, it was very quickly decided that Germany would get Marshall Plan aid. And so it played a big role in German post-war reconstruction. Reconstruction, that is, in West Germany. So it's well known that, you know, in the wake of the Second World War, Germany was occupied.

And that is the economist Daniel... In Anglo-Saxon countries, I'd say Sturm, but a German would say Sturm. So it's a difficult one. Sturm grew up in Germany and now teaches at the London School of Economics. His specialty is called spatial economics. Well, spatial economics is sort of a umbrella term for people who are interested in the role of space in economic activity. So that could be space across countries.

As sort of studied in international trade, that could be space across countries. As sort of studied in international trade, that could be space across regions or the role of space within cities. You can see where this is going, can't you? After the war, Germany was divided and occupied by the Allied powers. For a spatial economist who happens to be from Germany, this division would provide a perfect natural experiment. There was West Germany, which was the combination of the American, British, and French zone, and East Germany, which was the Soviet zone.

The border between West and East Germany was also a border between capitalism and communism. In the West, cities like Hamburg, Bonn, Frankfurt, and Munich began to rebuild and resume their capitalist pursuits. Not so in the East. And Berlin lay firmly in the East. Before the war, it was the capital of Germany, easily its largest city, and an economic powerhouse. Now, it too was divided eventually by the Berlin Wall. West Berlin was officially part of West Germany, but it was an island of capitalism in a sea of communism.

So a lot of industries are forced to relocate and find new homes in West Germany. And so it was for four decades, until November 9th, 1989, the fall of the Berlin Wall. New York just a short while ago, astonishing news from East Germany. Within hours of East Germany's decision to let its people go by opening the border to the west, the city erupted in a frenzy of celebration. Tens of thousands of young Berliners are on the Berlin Wall. When the Berlin Wall came down, I was just serving in the army.

There was still conscription at the time. I was a lorry driver, so I was sort of, you know, servicing the spatial economy at that point, transporting goods around for the German army, but I had no training economics at that point. But years later, Sturm, the economist, began to examine the economic data generated by the political divisions. So one of the classic questions in spatial economics is the question, why do people, firms and workers locate where they locate? And there's sort of two big competing kind of theories. One is there is something that's sort of fundamentally good about some locations, maybe access to a river, nice weather, or other location advantages. And the competing

theory is that it's really cumulative causation. Once a critical mass of economic activity has been established in a location, people will just gravitate to that location. So there's nothing kind of inherently good about the location other than that many other people have decided to locate in that location as well. So trying to distinguish between these two explanations, unfortunately, is very difficult. Difficult, especially when you can't run experiments in economics the way you can in other fields, when you can't, say, divide a country in half and cordon off its most important city to see what happens there. But, of course, that is essentially what happened in Germany.

Before the war, many large industries were concentrated in Berlin, but they shriveled during the Cold War. Now, after reunification, Daniel Sturm and a colleague, Steve Redding, took advantage of this shock to the system. So once that shock dissipates, do we see that everything gravitates back to its old pre-war equilibrium, which would suggest that everything is driven by fundamentals? Or do we see that the new location pattern that was developed during division continues after reunification. So we don't go back to the old pattern, but stay in the new pattern that has been developed during the shock period of division. Now, granted, a city like Berlin can't just flip a switch after 40 years and tell all its big companies to come home. They had built buildings. Their workers had homes there.

Still, Sturm felt he could at least address the question by looking at the data. First stop, airplane traffic data. The main reason we looked at air hubs is it's a sector where you get a lot of historical data. Before the war, Berlin had the biggest airport in Germany. It was in fact also the biggest airport in Europe. But during the post-war occupation, a lot of airplane traffic migrated to Frankfurt, in part because the U.S. military had its main airbase there. And it took till the mid-1970s for Frankfurt to sort of fully take over

the role as hub airport for Germany and for Berlin to fully fall back into sort of the role of a regional provincial airport. Okay, not that surprising that Berlin's airport fell out of favor during the occupation. But what happened after reunification? Did Berlin recapture all that air traffic or did Frankfurt retain its hold? And that's exactly what we find. That is Frankfurt retained its hold. There's no evidence of the pattern of air travel gravitating back to its old pattern. To this day, Frankfurt has the biggest airport in Germany, with more than 60 million passengers a year.

Berlin, while still easily the biggest city in Germany, has only the fourth and seventh busiest airports, which combined have only about half the traffic of Frankfurt. Germany is the only European country where the country's main air hub is not in the largest city. So you can sort of see the unusualness of the German situation. So if division hadn't happened, it would be very difficult to believe that Germany's main air hub today wouldn't be in Berlin. The air traffic story is compelling because the data are so definitive. In other cases, it's hard for an economist like Sturm to make such a clean comparison between cities. But, he argues, the anecdotal evidence at least suggests that the air traffic data are part of a larger economic pattern.

If you look, for example, at Munich, both Allianz, Germany's biggest insurance company, and Siemens, its biggest manufacturing conglomerate, moved to Munich in response to division. Similarly, the banking sector, you know, left Berlin and migrated to Frankfurt, which prior to the war was sort of a secondary banking center. Similarly, publishing went to Hamburg. And we can continue in this way. In other words, one indirect consequence of the war and the resultant political division was that the German economy became more decentralized. Germany has a very unusual economic geography or a very unusual distribution of economic activity in space. It's a much more decentralized country than some other European

countries such as the UK or France or even Spain, where economic activity seems to be highly agglomerated in one or two leading centers. In contrast, in Germany, you have a number of sort of mid-sized towns that have very vibrant economic structures, such as Munich, Frankfurt, Hamburg, and many more. Now, is economic decentralization necessarily a benefit? Cities like New York, London, Paris, and Tokyo might argue otherwise. There's a large literature that documents that there returns to density, so bigger cities seem to be more productive. So from that perspective, you know, it may be better to concentrate economic activity in a few large cities. But density also has its costs, higher housing prices and cost of living,

more traffic congestion. From that perspective, maybe better to sort of spread economic activity apart. So is it possible for economists to learn the optimal population distribution across a country's cities? The question is a tricky one and one that arguably we have much less of a handle on in terms of understanding the full empirics and the importance of different effects. So if we split London into two cities and moved one to the north of England and left one where it is right now, what exactly would be the implications of that for UK economic activity. It would be great if I could solve that question and provide you with a precise empirical estimate, but it's something that is very difficult.

Okay, fair enough. Hard question to answer. But keep in mind, it also has political implications. A lot of recent elections have seen populist momentum from outside major cities, with voters who feel the cosmopolitan elites don't represent their economic interests. If you look at the UK, one of the key kind of obsessions of UK politics is to try

and redistribute economic activity away from London to other parts of the UK, which compared to London are lagging. There is spatial inequality in Germany as well, but it's not as extreme with, let's say, Berlin being the vibrant place and everything else being a backwater. So we have a number of cities that also in terms of per capita income are very comparable. And maybe this is one of the reasons why Germany has also so far weathered sort of the populist tide. Maybe, but maybe not. We spoke with Sturm before the recent German elections. Angela Merkel was easily reelected as chancellor, but the ruling coalition parties lost seats in

parliament to the Alternative for Germany party. It has an anti-immigrant platform and is especially strong in the former East Germany, where the economy isn't nearly as strong as in the former West, which suggests one of at least two things. The German economic miracle may be running into trouble, or at the very least, the former East still has a lot of catching up to do, including Berlin itself. So I came to Berlin right after the fall of the wall. That's Dalia Marine.

Today, she teaches economics at the University of Munich. But at the start of reunification, she was at Humboldt University in the former East Berlin. And it was a very exciting moment because basically, you know, under communism, they had not really an economics department. They didn't know anything about Keynes and Adam Smith. Under communism, they basically were teaching Marxism and Leninism. They didn't know anything about the market because they were a planned economy. So they had no alternative then to fire these people. The firing of communist economists was one of many, many adjustments that came with reunification. Reunification was a major economic shock. Among the problems East Germany faced, a bloated socialist bureaucracy and dilapidated infrastructure,

an unproductive workforce and massive government subsidies for food and housing, and, oh yeah, the lack of functional capitalist markets, the German government worked hard to bring East Germany back into the fold. And there was a huge economic boom that came with it because there was massive infrastructure investments in the East. There were also enormous transfers paid to try and jumpstart the East German economy. There was huge euphoria about reunification. But then, I mean, this mood changed fairly quickly.

So in 93, 94 maybe, the country really went into a sort of hangover mood. Because it was difficult for West Germany to absorb East Germany. One big difficulty was getting East and West using the same currency, the West German Deutschmark. Jeremy Zettelmeier says the conversion happened at an even one-to-one rate, which had a huge effect on real wages. Now, even though that did not translate into the same wage level in the East as in the West, wages went nonetheless higher than they would have been without that. And so you have a period where effectively the wage levels in the East, in hard currency, exceed Eastern productivity. And that produces more unemployment. Just to give you perspective, we had an unemployment rate in Germany in 1991,

was roughly 5%, so maybe 2 million unemployed people. But then in 1997, the whole unemployment rate went up to 11%, 12%. So it was really a dramatic period. The drama, of course, did not end there. And then you have Germany join the euro. The euro had become the common currency of the European Union and Germany, unlike Britain, decided to embrace the euro as its currency. Zettelmeyer argues that from the German perspective, the euro was

overvalued and that made German exports more expensive, which put a drag on their economy. Beyond that, the new scenario inspired an exodus of German capital. And the reason is that investment opportunities in the southern European countries suddenly looked more attractive. In Spain, for instance. There was an extreme capital flight to Spain, and the housing sector in Spain quadrupled. And part of the reason why that happened was because German households, in fact,

bought houses in the nice parts of the beach of Spain. But it wasn't just German households moving their money. Companies did it too. For years, countries like Spain and Portugal had been cheaper for a company to operate in, but they also came with their downsides, unfriendly business policies, the threat of high inflation, the occasional currency crisis. But now, as fellow EU nations using the common euro currency, Germans took a second look. It was almost like having these countries sign up to this kind of fitness plan.

And that made them very attractive. Manufacturing in Germany, therefore, became less attractive. And that made unemployment even worse. So if you add up all these factors, some subtle and some quite blunt, you can see why Germany by the early 2000s was not in great economic shape. You really had the impression that the German economy is about to fall off a cliff or something. And that's where this famous expression of the sick man of Europe was coined by The Economist. Coming up on Freakonomics Radio, so how did the sick man of Europe turn into the economic

stud we see today? You know, at first glance, I mean, the system looks pretty inflexible and rigid. That's coming up right after this break. It's no secret that the German economy is booming right now. The country is the economic engine of Europe with enviable numbers on public and private debt, productivity growth and unemployment. This week, Germany also announced a record trade surplus. We Germans have 1% of the labor force of the world, and we have 10% of the exports of the world. But just 15 years ago, things were looking pretty grim. The country was struggling to reunify after the Cold War. Adopting the euro had its downsides, including a flight of German capital from Germany, and unemployment was at nearly 12%.

The talk shows they were full of people arguing that Germany is not competitive, wages are too high, the labor market is too inflexible, the social security system is too generous, and we have to do something dramatic about it. That, again, is the University of Dusseldorf economist Jens Sudekum. So basically, you can really think of that period from 93 to 2003, really as a decade of stagnation. So that was the mood that predated the Hartz reforms in 2003. The Hartz reforms were named after Peter Hartz,

a Volkswagen executive who became an advisor to Chancellor Gerhard Schroeder. Schroeder and his Social Democratic Party had been elected to lead Germany in 1998. There was this impression that if somebody can reform the country, it's going to be them, right? Because they are social democrats, they have the unions on their side, right? And so 2003, Schroeder announces what he has called the Agenda 2010 and the famous Hartz reforms, they were part of this agenda. Among other changes, the Hartz reforms lowered government assistance to the poor and unemployed, made it easier for firms to fire employees, and encouraged more part-time, low-wage,

non-union jobs. As you can imagine, such reforms did not make Schroeder universally beloved. And it had a huge political cost because he lost the left-wing part of the Social Democrats. And basically, it cost Schroeder the chancellorship. So he lost the election in 2005 to Angela Merkel. But then ultimately, the common narrative is basically those Hartz reforms, they created the turnaround. That at least is the common narrative. Some economists think it's more nuanced than that, that there are more factors to consider. Let's start with Germany's unique system of labor relations.

You know, at first glance, I mean, the system looks pretty inflexible and rigid. And unusual in at least one other way, German manufacturing is not dominated by gigantic firms. So one of the distinctive features of the German manufacturing sector is you see all these small and medium sized firms. Germany is fairly unique in having companies with between a few hundred and maybe a thousand employees that do a lot of exporting. Such firms are often family owned and typically receive government support. Collectively, they're known as the Mittelstand. The interesting thing is that normally when you have small and medium enterprises, they are not international. The major thing about the Mittelstand in Germany is that they

are very international. I'm talking here about the export superstars. I mean, you have all these so-called hidden champions in Germany. So these are medium-sized firms, often located somewhere in the countryside, but they are kind of the world market leader for some very specific niche product where they offer the highest quality. Products like pipe organs or battery chargers or professional movie-making equipment or fish processing machinery. And the workers of these firms, I mean, they're highly paid, they're protected, and the unions there, the work council is important there. A work or works council is like a trade union writ small,

sometimes representing the workers of just that one firm. And it participates in decision making with the firm's executives. It's part of a system known in German as… Mitbestimmung, yes. Codetermination. This is a very important part of the way Germany is doing business. So the governance of firms, small and large, is not determined solely by executives and big shareholders, but with input from the workers themselves. That goes for factory decisions and boardroom decisions.

Uwe Reinhardt again. In Germany, the unions have representatives on the board of the company, like Siemens or Mercedes. They probably have two or three union bosses sitting on the board. This setup gives workers more leverage over employment policies, including wages. I mean, the system of industrial relations in Germany is, you know, that there is wage negotiations at the industry level, right? So here's the union, here's the employer association for each industry. So they sit together, they bargain a wage, and that wage is basically applied everywhere in the country in that industry. Kind of the way sports leagues work in the U.S., at least to some degree.

That's the rule. But there are exceptions. One big exception is known as an opening clause. So that means at the firm level, if the work council agrees, it is possible to deviate from these arrangements under certain well-specified circumstances. And I think that's important. Employer, basically, the firm has to prove that this downward deviation is really necessary to prevent, for example, bankruptcy or, you know, to remain competitive. They really have to make sure unless we have this flexible wage setting, we really have a fundamental problem and we may have to fire workers. You may be surprised to learn that German workers willingly accept a wage lower than the one their union negotiated. But they learn from history, specifically from their own history at the end of the Cold War.

With the opening up of Eastern Europe, firms would threaten to go to Eastern Europe. This threat of production relocation to Eastern Europe. So the firms kind of realized that they need to restructure, they need to become competitive. And that threat actually brought a big change in the way which bargaining was organized. Specifically, a heavier reliance on opening clauses. And so the individual firms could adjust more flexibly to the circumstances that the can for our members, right? But I think the unions, they deserve quite some credit for being flexible and being willing

to cooperate. So here's a question. How well would this cooperative labor model travel? The German auto firm Volkswagen found out a few years back when it opened a factory in Chattanooga, Tennessee. By the way, this was before VW's emissions scandal or the accusations of collusion between VW and other German car makers,

which, by the way, if you're even a little bit cynical, you might think could help explain a good bit of the German economic miracle since cheating and winning do often travel in the same direction. But that's not the story we're telling right now. The story we're telling right now is about when VW came to Chattanooga to make cars. VW's German ownership has made it clear it wants a German-style works council that involves workers and management at the Chattanooga plant to negotiate employee

concerns. Both the United Auto Workers Union and the American Council of Employees Union have both come up with plans to work through their versions of a German-style works council. That type of labor agreement would be historic in this country. So far so good. The labor unions were up for copying the German model. But Tennessee's political leadership, which historically has not been union friendly, did not like this idea one bit. Senator Bob Corker says Volkswagen would become a laughingstock if it partners with United Auto Workers. Corker called it incomprehensible that

management invited UAW for discussions. And he's not the only one upset. Governor Bill Haslam says discussions with UAW have hindered business recruitment in Tennessee. There is no question that if the UAW comes in there, it will impact our ability to recruit out of business in Tennessee. The plan was ultimately ditched. The Princeton economist Uwe Reinhart says that considering the recent history of American auto manufacturing, including its bankruptcies, these politicians' concerns about American labor unions may not be unfounded. Well, the way I put it to the freshmen at Princeton is a business firm is really just a little bowl into which tender vittles are poured. Tender vittles, in case you don't recall, was a brand of, quote, semi-moist cat food that cats allegedly went crazy for. Tender vittles, in case you don't recall, was a brand of, quote, semi-moist cat food that cats allegedly went crazy for.

Tender Vittles cat food says fresh to your cat at every meal. Fresh. So I always use that as a metaphor for businesses. The customers pour in the Tender Vittles. And in the U.S., when you had a union, they would fight and spill the whole bowl of tender vittles. And in the end, no one could eat anymore. When I looked at UAW, it's insane. They're going to kill their company.

And sure enough, they damn near did. I mean, General Motors was almost bankrupt. In Germany, the unions have representatives on the board of the company. And yes, they view and say the first thing that this bowl of tender vittles, we have to make sure that the bowl is there. We can fight all we want, but don't spill the bowl. So you don't destroy your company. And that was not the attitude of Anglo-Saxon unions, either in England or in the U.S. Some economists, Dalia Marine, for instance, think that a work council can bring together unions and firms anywhere.

Yeah, I think it's an institutional arrangement that can be, in principle principle replicated in other countries. Or maybe Germany is simply different. Gen Pseudocum again. I think culturally, I mean, there is a sense of you have to be flexible, you know, when circumstances change, when new challenges arise. I think this is kind of deeply embedded in the German approach of doing things. Even Dalia Marine doesn't disagree with this. It's true. It's part of the culture.

You try to come to a common goal. This has a high value. Germany is a stakeholder economy in that sense. It's not a shareholder economy. It's a stakeholder economy. This culture, Marine says, also manifests itself in management style. Her research has shown that German CEOs are more willing to grant decision-making power to lower management. And that, she argues, improves quality. Because those are the managers who have the best sense of what customers want. This requires CEOs to have quite a bit of faith in their managers.

And that is part of a cultural thing, that people trust each other. An earlier episode of Freakonomics Radio called Trust Me explored an important but often overlooked element of successful societies. It's called social trust. It's just one of those things. It's sort of like the dark matter of the economy and society matters very greatly, and yet we don't seem to focus on it very much. And on the standard measures of social trust. You see that Germany comes out very high.

Not quite as high as the Scandinavian countries, but well ahead of the U.S., France, Italy, Spain, England. And in Germany, trust has been increasing lately, unlike most of those other countries. Whatever the causes, the fact is that German firms enjoy a relatively harmonious relationship with their workers, which can come in handy when you're facing a big external threat, like China. I think that sort of arrangement made Germany kind of ready for globalization, made it kind of competitive when globalization really kicked off at the turn of the millennium. That, Jen Sudekum points out, is when China joined the World Trade Organization. I mean, that's the time when trade between Germany and China really went through the roof. I mean, now, as of 2017, China is the biggest trading partner of Germany.

It's not that Germany didn't experience any of the labor contraction that hit the U.S. and other countries. It's just that we had more offsetting positive effects in other communities and other industries. Offsetting positive effects driven by a seemingly insatiable Chinese appetite for German-made goods. Luck is one part of the story, right? So we just happen to produce the type of stuff that China wanted and China needed. Stuff like the specialized machinery made by all those Mittelstand companies and stuff like high-end cars, BMWs, Audis, and Mercedes-Benzes.

I mean, German engineering is kind of legendary and German machinery is legendary. So that's one part of the story. But the other important part of the story is that German manufacturers already had practice staring down the threats of globalization. They were lean and mean, and they built a collaborative culture and institutions that prized flexibility. Here's Zettelmeyer again. It is true that the success of Germany in export markets is a national prerogative, that so many jobs depend on them. And so as a result, you tend to have unions, both at the company level and sector unions, that are happy to prioritize competitiveness over wage increases.

To be fair, Germany has seen a decline in manufacturing as a share of GDP. But our work really showed that globalization and trade actually contributed nothing to this manufacturing decline. So the manufacturing decline is driven by other channels. So technology can be robots, it can be automation, but it's not trade, it's not globalization. Sudekum's research, in fact, shows that globalization helped Germany retain manufacturing jobs. If you do a net calculation, we have a plus of maybe half a million jobs. Compare that to the loss of over a million manufacturing jobs in the U.S. just from trade with China.

But as Sudakam points out, workers everywhere are now facing competition from robots and computers. And yet, even in this realm, German labor has so far been resilient. In a new paper, Sudekum and his colleagues find that, quote, robots have not been major job killers in Germany so far, somewhat in contrast to the buzz in some of the contemporary public debate. Granted, this has been achieved in part by wage cuts. But once again, the German system of industrial relations has proven adaptive. It has also been proven durable. There are a lot of longstanding labor practices in Germany that seem to produce systemic benefits.

For instance, its famous system of apprenticeship, which is funded by both the government and the private sector. I mean, the system of apprenticeship is really one of the biggest advantages that Germany has, especially for manufacturing. The apprenticeship system ensures a flow of relatively talented young people into industry that might not even consider industry in other countries. We're talking about kids who don't go to college. So in many other countries, they would just pick up the job somewhere and start working and receive on-the-job training for one firm, right? So in Germany, you go through the system of vocational training, right? So basically half of the week, you work for one employer, right? And the other half of the week, you go to school and receive some general training. And I think the biggest advantage of that is that the workers acquire something that

we economists call not just firm-specific, but industry-specific or occupation-specific human capital, right? And I think that helps you to adapt when your employer goes broke and you just need to find a new job, then I think you fare much better. It's this kind of institution that may explain why Germany weathered the 2008 financial crisis and subsequent euro crisis relatively well. It saw only a small rise in unemployment. The German system of co-determination also helped.

Here's Dalia Marine again. So there was a big bargain between the government and the entrepreneurs and the unions. The firms will keep the workers, in particular the skilled workers, and will get a subsidy for keeping them from the government. And the financial crisis actually strengthened Germany's position in the EU, at least on one dimension, currency. You'll remember that Germany was initially punished for embracing the euro in that its exports got relatively expensive, but now it stood to benefit. German Zettelmeyer. In some sense, German competitiveness is the flip side of lack of competitiveness in other countries that are part of the same currency union. Imagine what

would happen if we exited the euro, right? So the currency would appreciate, the new Deutsche Mark would be much stronger. And what that means is that in dollar terms, German industrial wages would be way higher. Now, we are in the euro that is keeping the German currency undervalued, so to speak, because the value of the euro, even though there's no interference through intervention, no currency manipulation whatsoever, we are in the same currency as countries for whom the euro is rather strong, you know, like some of the Mediterranean countries. So that lack of competitiveness in the South is holding back the value of the euro as a whole. And that increases the surplus. The surplus, meaning the trade surplus, that makes up a big part of what economists call a nation's current account. So, you know, many people to a first approximation think of it as the trade balance, which is just basically the value of goods that you export minus the value of goods that you import.

But that's a little too narrow. Investment income is also in there, which is actually quite big in Germany. So it's not all about just the trade balance. What is the state then of Germany's current account? The German current account is the biggest in the world in absolute terms. In 2016, it hit a record high of nearly $300 billion, more than China's, which has more people and a bigger economy. As a former government official, Zettelmeyer confirms that Germany's record surplus is a major source of pride. It was certainly the prevailing view that we have a big surplus

because everyone loves our products, including ourselves. So, you know, everyone just wants German stuff. And so this is why we export a lot. And we want German stuff too, which is why we tend not to import so much. We just buy our own things. This means that other countries may see a big trade deficit with Germany, which doesn't necessarily make them happy.

President Donald Trump is criticizing Germany again. This morning, German magazine Der Spiegel reporting the president sharply criticized Germany in a meeting with European Union officials, lashing out, saying the Germans are bad, very bad. Look at the millions of cars they are selling in the U.S. Terrible, according to participants there. But it's not just Trump. Other EU nations have argued the same thing, as has The Economist. Germany, they say, is making tons of money selling its goods around the world, but it doesn't use that money to buy other countries' goods. It's a criticism that Zettelmeyer does not completely dismiss.

Even if, you know, it's true that people just love our products, you know, we are so great, BMWs are fantastic, so we are awash in cash, you know, normally a country should then be spending this cash. And, you know, maybe if we don't like, whatever, U.S. cars, maybe we don't spend it on US cars. But surely there are very nice holidays in the US. Surely there are services that we can buy from abroad. So there is a general puzzle as to why a country would not actually spend these export proceeds. There is another way Germany could shrink that surplus.

Firms could give their workers a big raise. And so here is the slightly weird thing about Germany, that we have a labor market set up that was, you know, critically shaped by a period when Germany was not very competitive. And somehow this continues to function as if the biggest problem in Germany is to maintain its competitiveness, when that's actually not true. We are very competitive, and so we could let wages go up. But there is a very large degree of caution among the unions and the employers that prevents this from happening.

That caution hasn't stopped the German government from acting. Even though it wasn't billed as, you know, let's try to reduce the current account surplus. Let's try to reduce Germans' hyper competitiveness. We have done a lot in this government to raise wage levels. But this is not happening primarily in the high wage manufacturing sector. I mean, one impression of German labor market is, you know, these well-paid, highly protected jobs in the manufacturing industry, right? But on the other end of the spectrum, I mean, you have a huge, huge low wage sector in Germany, actually one of the largest low wage sectors in Europe.

And the Haas reforms, they expanded this low wage sector, which is completely uncovered by union agreements, and until recently wasn't even subject to a minimum wage. So I mean, we had people working for as little as €3.50, so basically maybe less than $5 an hour. And so the current government has actually done quite a lot to raise wage levels. So one was we have introduced a statutory minimum wage in several stages in 2015 and then this year, so it's now fully there. It is also reasonably high. So it is higher than in terms of how it affects the wage distribution

than in the United States, for example. We also have done a bunch of legislation that essentially strengthens unions. You know, part of the problem is that the services sectors, they don't lend themselves to unions much, or at least, you know, historically, unions have been weaker there. And yeah, you have many immigrants working in the sector. You have, especially in East Germany, that sector is very active, right? And we're kind of all these nice arrangements that you hear about when you hear about German manufacturing sectors, they just don't apply to that sector of the economy. And so there's been some legislation to strengthen unions, particularly big unions, majority unions. But you know, the next big step would involve changing the labor market constitution fundamentally. I mean, taking away the so

called autonomy of wage setting from employers and unions, and that we are certainly not going to do, right? So that's basically a good institution. And so if you're really serious about wage increases in Germany at this point, the only way you can do it is through public sector wages. So the public sector is quite large. And, you know, the government can raise public sector wages. Why not?

While Zettelmeier supports the idea of potentially spending down Germany's account surplus, he notes there may be one good reason to proceed cautiously. The economist Daniel Sturm expressed the very same caution. about 1.5 children per woman. These are birth rates that are below the European average and mean that population in Germany is going to shrink for the foreseeable future and is going to do so at a fairly dramatic pace. That means fewer young people to work and more old people to collect benefits. One potential solution, of course, is more immigration. Chancellor Merkel's recent decision to accept roughly a million refugees from Syria, Iraq, and elsewhere was a controversial one. Again, witness the strong showing by the anti-immigrant Alternative for Germany party during the recent elections.

Unless you wanted to accept sort of a million people a year, which would certainly politically be completely unacceptable, even in Germany, you cannot compensate for such a shortfall of birth rates through in-migration. All that said, when one of your country's biggest economic problems is whether its surplus is too large or whether it is too competitive on the world stage, well, a lot of countries would love to have your problems. So we couldn't help but ask this crew of German economists we've been speaking with today what lessons, if any, the U.S. should take from the German success.

First, the spatial economist Daniel Sturm. I guess one of the most important lessons is that training workers and particularly training workers at the lower end of the skill distribution is key to increasing productivity and also, I think, to increasing social cohesion, a feeling of belonging and contributing that it's not just, you know, the top 20 percent that are highly successful, but that success is spread throughout the workforce and that there is training for different types of people, for different types of occupation. And all of those are really valued and are important contributions to the economy. Next, Jens Sudekum from the University of Dusseldorf. I mean, we also had these losers of globalization here in Germany. So people who really had problems because of trade, right?

But I think a big difference is in Germany, these people receive more support from the government. So there is a safety net. There is trade adjustment assistance, there's kind of active labor market policy trying to bring these people back to other jobs elsewhere and subsidies just trying to keep the communities alive, right? And I think we do a relatively better job in kind of cushioning the losers. I'm not saying we're perfect in that, but I think we're doing a better job than the United States. Jeremy Zettelmeyer, the former government official, thinks it would

be hard to simply transfer Germany's labor relations infrastructure to a country like the U.S. For example, unions play a big role in the German model. In the US, unions are just not that strong. So, you know, we can always say, oh, well, one of the lessons is you should, A, increase the role of unions and B, make them very reasonable and very cooperative like the German ones, you know, but we wouldn't even get through stage A of this. Zettelmeyer points out that the German model has plenty of its own problems. For instance, an emphasis on tradition, perhaps at the expense of innovation. So the German industry is very much geared towards helping incumbents do well. It's, you know, the unions are supportive.

The state is there to lend you a hand. So we have a very generous supply of credit from, you know, specialized banking segments that specifically lend to Mendelstand companies. We have lots of barriers to labor mobility in Germany. So there are very high hiring and firing costs. So the typical churning that you get in an economy is lower. And that's, you know, arguably a good thing in the sense that we have good companies and that make good products and have good jobs that are preserved. But it also has a bad side. And that bad side is simply not visible, which is we are preventing the growth of, say, you know, impressive companies in new sectors. Right. It's not a very dynamic economy.

Yeah, it's true. That's Dalia Marine from the University of Munich. So you don't have these big high-tech firms like Google, Facebook, Amazon, and so on. Germany doesn't have that. There are some, but very few. Even Germany's world-beating auto sector, she says, is vulnerable. And so one problem today is, how is the car industry going to do in the future when you have these autonomous cars?

The cars become more computer and software than hardware. But the advantage of German car makers was the hardware and not the software. Will Germany survive this threat? Because that's not where the comparative advantage in Germany is. The U.S., meanwhile, has had its own comparative advantage. And Jeremy Zettelmeyer argues that this has had the unfortunate side effect of wounding its manufacturing sector. A very, very important reason why manufacturing has declined, at least traditional manufacturing has declined in the U.S., which is completely underemphasized, particularly by the Trump administration,

is domestic competition. So extremely dynamic growth in new sectors in the United States, particularly, of course, the computer industry and the software industry, the platforms, the IT giants. And this growth sucks away labor and makes it harder for traditional companies to compete. So this has nothing to do with globalization. This has something to do with technical change, but it has a lot to do just with the general dynamism of the U.S. economy. And one of the reasons why the manufacturing share is high in Germany is because the German industry lacks this dynamism. The U.S. has traditionally been a much more dynamic economy. I think the U.S. has a very good model.

And what the U.S. should focus on is to maintain and improve its model, not about copying the German one. Coming up next time on Freakonomics Radio, there's one autoimmune disease that's different from the rest. Because the culprit, the enemy that turn on immune system to attack your own body is known, and that's gluten. The disease, as you likely know, is celiac disease. how it was discovered, how it was until recently vastly underdiagnosed, at least in the U.S., and how it has led to a mass gluten-free movement that often has nothing to do with celiac disease. There was a sort of perfect storm of celebrity endorsements, other fad diets,

and a foundation of anti-carbohydrate bias that set the stage for gluten-free to take off. Gluten, gluten everywhere. That's next time on Freakonomics Radio. Freakonomics Radio is produced by WNYC Studios and Dubner Productions. This episode was produced with great skill and insight, I must say, by Greg Rosalski. Our staff also includes Allison Hockenberry, Merritt Jacob, Stephanie Tam, Eliza Lambert, Emma Morgenstern, Harry Huggins, and Brian Gutierrez.

The music you hear throughout the episode was composed by Luis Guerra. You can and should subscribe to Freakonomics Radio on Apple Podcasts, Stitcher, wherever you get your podcasts. You should also check out our archive at Freakonomics.com where you can stream or download every episode we've ever made, more than 300. You can also read the transcripts and find links to the underlying research. We can also be found on Twitter, Facebook, or via email at radio at Freakonomics.com. Thanks for listening.