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Figure 3.3:
Real Effective Exchange Rates vis-à-vis other Euro-area Countries
75
80
85
90
95
100
105
1989
1991
1993
1995
1997
1999
2001
Deflator of private
cons umption
GDP deflator
Price deflator of exports of
goods and s ervices
Nominal unit labour costs in
the whole economy
Nominal unit labour costs in
manufacturing
Issues related to German re-unification
German re-unification brought together one of the most advanced economic areas of the world
with an area of low productivity, state-protected companies, artificial exchange rates and an
almost obsolete capital stock. The clash this implied for East German production was enhanced
by a 1:1 conversion rate of the East German mark into the DEM, while the exchange rate
applicable for East German exports had been at 1:4.3.
38
Moreover, wage negotiations that
started in East Germany very soon after re-unification raised cost pressures. Led by West
German trade unions, most attention was given to the convergence of wage rates in West and
East Germany, arguing that many workers would leave East Germany if wage differences would
be sustained. By setting East German wages for subsequent years as a percentage of West
German wage rates all future increases in West Germany had already been implemented.
From the analysis in the previous sub-sections one might conclude that the deterioration in
external price and cost competitiveness weighed heavily on German growth prospects in the
first half of the 1990s, but that in the second half of the 1990s improvements have helped to
regain initial positions. However, one has to acknowledge that this reasoning is mainly based on
observed changes, whereas it is essential to assess also the levels of the indicators. Here Figures
3.1 and 3.2 tell different stories: while thanks to the exchange rate movements in recent years
indicators versus 24 industrial countries have already reached levels below those observed in the
pre-unification period, the indicators vis-à-vis the Euro-area economies have not done the same.
In the year 2001, some Euro-area indicators were still by about 10-15% above the levels
observed before the fall of the Berlin Wall.
An analysis of the competitiveness of the German economy is made difficult by the fact that re-
unification introduces a statistical break in the country data series. Price and cost
competitiveness indicators in the figures depict data for unified Germany from 1991 onwards
and for West Germany in the years before. When merging the two series it is assumed that the
index value for West Germany and unified Germany are identical in 1991. The choice of that
particular year is justified by the fact that re-unification took place in late 1990 and that initial
estimates of national accounts data for the Eastern part suffered from several shortcomings,
most notably from the absence of market prices. In using this chaining point, however, the rise
in East German unit labour costs during the years 1990 and 1991 are not reflected in the data. A
way to cope with this shortcoming would be to choose an earlier year for merging West German
and pan-German data. One can expect that due to the rapid changes in the East at that time, pan-
German levels went up by a substantially higher percentage than is reflected in the West
German index figures. This is shown in the calculations underlying Figure 3.4 based on data
from the Federal Statistical Office.
In 1991, East German average
labour productivity
was only one third of the West German
counterpart. This resulted in a sharp drop of pan-German labour productivity compared to 1990
West German figures (Figure 3.4a). As plants were closed down and new capital stock became
available, labour productivity surged in East Germany displaying double-digit growth rates.
However, by 1997 the East German per capita output level had only reached half of the West
German level.
The
compensation of employees
in East Germany was at 42% in 1991 and started to converge
towards the West German level, reaching 68% of it in 1997 (Figure 3.4b).
38
This means that East German companies, which produced shirts for 10 East German Marks sold them for 2.3
DEM to West German retailers (before GEMSU started). At this price East German producers were competitive
vis-à-vis West German producers. Applying the conversion rate of 1:1 in GEMSU they immediately had to
charge 10 DEM which made them lose price competitiveness and thus almost all of their market shares. See
also Sinn and Sinn (1994).
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