Brookings Papers on Economic Activity

It is difficult to find a more dramatic episode of economic dislocation in peacetime during the twentieth century than that associated with the reunification of Germany. It is a sad irony of history that the plucky East Germans who toppled the dictatorship of the proletariat in the bloodless revolution of 1989 were rewarded with an economic bloodletting on such a vast scale. From 1989 to 1992, GDP in the former German Democratic Republic declined by roughly 30 percent, value added in industry by more than 60 percent, and employment by 35 percent. During the same period, unemployment rose from officially zero to more than 15 percent. That figure, moreover, is based on registered unemployment only; joblessness [End Page 1] rose to 33 percent if hidden unemployment (early retirement, involuntary part-time work, makework, training schemes for the unemployed, and so on) is included.

Ten years after East Germany came in from the cold, the success of the transition from socialism cannot easily be summarized. By 2000, GDP per capita in the eastern states (Länder) of the reunited Germany including Berlin had risen to 65.3 percent of that in the western states (if Berlin is excluded, the figure is 60.6 percent). That is an impressive accomplishment by the yardstick of economists' more pessimistic forecasts a decade ago. Thanks to generous transfers from the west, consumption per capita has converged even more. Miriam Beblo, Irwin Collier, and Thomas Knaus report that 81 percent of easterners have seen their incomes rise during the transition.¹ However, convergence in productivity has slowed sharply, implying the need for continuing transfers, and the labor market has yet to recover from the initial shock. Even the unemployment rate cannot easily be summarized, since, again, it depends on whether people in makework and training programs are included. The eastern unemployment rate based on registered unemployed was 18.8 percent in 2000, more than twice the rate in the west; it was 27 percent in 1997 if hidden unemployment is included. Measures based on survey data, taking search and availability into account, show that the unemployment rate averaged 13 percent from 1994 to 1999. The employed share of the eastern working-age population (those aged eighteen to sixty-five) declined from 83 percent in 1990 to 65.2 percent in 1999, compared with a steady 73 percent in the west over the same period.

German reunification is paradigmatic of the economic integration of any two neighboring regions at different levels of economic development. The mixed success of the transition shows the difficulty of development even under the most auspicious circumstances. The former East Germany was immediately able to import sound institutions, including political, legal, monetary, banking, and industrial relations systems, from its more developed partner. At a minimum, these have enabled eastern Germany to avoid the anarchic equilibrium in which Russia finds itself today. Furthermore, eastern Germany has benefited from the largesse, labor market, and expertise of a rich neighbor sharing a culture and language. Its experience serves as a crucible for understanding the ramifications of other, [End Page 2] larger-scale regional integration projects. The milestone achievement of German monetary, economic, and social union now stands as a benchmark (and perhaps as a foil) not only for the economic integration of the rest of central and eastern Europe with the European Union, but also for the immediate consequences of European Monetary Union.

Although the eastern German transition has attracted the continuous attention of economists, the issues have changed. The one-for-one conversion of East German ostmarks for deutsche marks, the privatization and restructuring of state enterprises, and the striking initial jump in real wages are no longer matters of policy debate, although they may have left their mark on the economy. We take the position that the ultimate measure of the economic success of German reunification is no longer the introduction of a market economy, but rather the attainment of an efficient production pattern made possible by the union of the two regions. This must be accomplished by growth in eastern GDP per capita, which...