Adjustments of Economics and Enterprises in a Changing World [1 ed.] 9783428476589, 9783428076581

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T AKASHI MATSUGI and ALOIS OBERHAUSER (Eds.)

Adjustments of Economics and Enterprises in aChanging World

Schriften zu Regional- und Verkehrsproblemen in Industrie- und Entwicklungsländern Herausgegeben von J. Heinz Müller

Band 56

t

und Theodor Dams

Adjustments of Economics and Enterprises in a Changing W orld

edited by Takashi Matsugi Alois Oberhauser

Duncker & Humblot · Berlin

Die Deutsche Bibliothek - CIP-Einheitsaufnahme

Adjustments of economics and enterprises in a changing world I ed. by Takashi Matsugi ; Alois Oberhauser. - Berlin : Duncker und Humblot, 1993 (Schriften zu Regional- und Verkehrsproblemen in Industrie- und Entwicklungsländern ; Bd. 56) ISBN 3-428-07658-3 NE: Matsugi, Takashi [Hrsg.]; GT

Alle Rechte, auch die des auszugsweisen Nachdrucks, der fotomechanischen Wiedergabe und der Übersetzung, für sämtliche Beiträge vorbehalten © 1993 Duncker & Humb1ot GmbH, Ber1in 41 Fotoprint: Wemer Hildebrand, Berlin 65 Printed in Germany ISSN 0582-0170 ISBN 3-428-07658-3

Editors' Foreword The editors are pleased to present this publication which contains the papers of the 13th Joint Seminar. This is the result of successful cooperation between the Faculties of Economics of the University of Nagoya and the Albert-Ludwigs-Universität in Freiburg. The meeting that was attended by faculty members from both Universities took place at Nagoya/Japan in 1991, a period during which there was rapid change in the political framework of Europe: It was characterized by the Unification of Germany in the context of European Integration and the new political orientation of East European Countries. The German authors presented applicable information to their Japanese colleagues about the economic concepts of the European Integration and the process of transformation in East Germany. Furthermore, the Japanese and German economies are challenged by a turbulent world economy which is linked to a rapid change in public and private organizations. In this context Japanese and German experts have presented papers dealing with new theoretical foundations and empirical facts which could be helpful for more efficient decision making on the microeconomic Ievel. Taking into account the wide range of topics discussed at the 13th Joint Seminar we are publishing some interesting contributions under the heading: "Adjustments of Economies and Enterprises in aChanging World". The Faculty of Economics is dedicating this publication to the president and rector of the University of Nagoya, Mr. Hayakawa, who died in Spring 1992. He was an ardent supporter in favour of cooperation between the University of Nagoya and the Albert-Ludwigs-Universität in Freiburg. On behalf of the Faculty of Economics the editors wish to thank the Ministerium für Bildung und Wissenschaft of the Landesregierung BadenWürttemberg for the fmancial support of the Nagoya meeting, as weil as the

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Editor's Foreword

Rektorat and the Akademisches Auslandsamt of the Albert-LudwigsUniversität for substantial aid. Furthermore we have to express sincere thanks to the Wissenschaftliche Gesellschaft of the Albert-LudwigsUniversität for fmancing the printing of this publication. Freiburg, October 1992 Theodor Dams

J.H. Müller

t

Table of Contents Theodor Dams Unification of Germany in the Context of European Integration and Current Issues of East European Countries: A Comparative Economic System's Perspective ..................................................................................... 9 Alois Oberhauser Public Finance and the Transformation Process to Market Economies in the Countries of Eastern Europe ................................................................ 33 Hans-Hennann Francke The Franco-German Way Towards an European System of Central Banks ..................................................................................................................... 45 Hans-Josef Brink Managerial Deficits and Solutions in the New Enterprises of East Germany as Consequences of Transition from a Planned Economy to a Market Economy ................................................................................................ 59 Hiroyuki Okuno The Restructuring of Financial Institutions in Japan ................................... 87 Nobuhiro Okuno/Ritsuko Futagami Regional Income Inequality and Allocation of Public Investment: The Japanese Experience, 1958-1986 ..................................................................... 101 Nobuhito Takeuchi/Yuko Arayama Interregional Difference and Public Finance ............................................... 115

Part I: Nobuhito Takeuchi Industrial Structures and their Fiscal Improvement .................................... 115 Part II: Yuko Arayama Prefectural Structure of Employment and its Determinants ..................... 129

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Table of Contents

Ralf-Bodo Schmidt Models to Aid Decision Making under Economic Uncertainty - A Problem of Interdisciplinary Research - ................................................ 143 Tamiki Kishida Technological Innovation and Organizational Restructuring .................... 155 Wolfgang Hilke Information about R & D Activities in Annual Reports of German Corporations ...................................................................................................... 171 Takeshi Yoshida On Technological Change and Interorganizational Relationsbips ............ 187 Franz Schober Information and Planning Systems in Support of International Business Strategies ................................................................................................... 195 Siegfried Hauser Models Considering Current and Cbaotic Structural Cbanges Exemplified by tbe Money and Stock Market ....................................................... 231

Contributors ....................................................................................................... 249

Unitication of Germany in the Context of European Integration and Current Issues of East European Countries: A Comparative Economic System's Perspective1 Theodor Dams

"The historical German event..." Since October 3rd, 1990, the two parts of Germany - the Federal Republic of Germany and the German Democratic Republic - are unified. This unification process has been based on Article 23 of the FRG's Constitution and has not followed Article 146: The German Democratic Republic as a political unit has presented the application to be integrated into the Federal Republic of Germany (according to the legal foundation of the FRG's Constitution). With the necessary two thirds of votes, the two Parliaments (FRG and GDR) have accepted the "Einigungsvertrag" (Treaty of Unification); the German Democratic Republic disappeared as a political institution (State)! - on October 4th, 1990, the Parliament of the unified Germany (a certain nurober of members of GDR-Parliament, for the frrst time freely elected on March 18th, 1990, joined the Deutsche Bundestag) has been assembled for the frrst session at the "Berliner Reichstag". Two months later (2nd Dec. 1990), the first election was organized to establish the Deutsche Bundestag covering the political competences for unified Germany. Since the beginning of December 1990, the unified Germany (FRG) has one single Parliament whose members have been elected by the population as a whole. This "pure" timetable enumerating some historical days has an important political dimension: in the span of one year (the Berlin Wall was broken through on November 9th, 1989) the GDR - established 45 years ago - with

1 Die Einigung Deutschlands im Rahmen der Europäischen Integration und im Zusammenhang der Entwicklung in osteuropäischen Ländern: Aus der Sicht eines Vergleichs von Wirtschaftssystemen.

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state property of production means, a centrally planned economy and the dictatorship of the Communist party (SED plus Bloc Parties) has been swept away by a democracy based on freely articulated political will of the inhabitants and on the basic principles of a market economy. The analysis of this historical process of political change in a very short period confirms the main principle of the so-called "Freiburger Schule" (W. Eucken a.o.), which developed the elements for the basic foundations of the FRG's economic order: the interdependency between the political, social and economic systems which have to be integrated into one order as a whole! This concept of one integrated political, social and economic order should Iead to the critical reflection that the element "Economic Order" and the "market as an institution with invisible hands" cannot solve all the economic and social problems which are closely linked with structural adjustments in a growing economy. Political decisions have to take care of the macroeconomic frame and of influencing the economic process in order to reach the overall formulated aims and norms of the society. This genera/ "confession" has, especially, to consider the economic impact and repercussions which have been caused by German Unification, economically introduced July 1st, 1990. - This problern will be the main focus of this paper taking into account the European Integration and cooperation with East Europe. International political unification in a changing framework of foreign policy decisions The rising up of the people at Leipzig (October and November 1991)2 the known world-wide as the Monday demonstrations - and, shortly before, the opening of the Hungarian-Austrian border were the mile-stones of surmounting the Berlin Walland of overcoming the separation of Germany: the peaceful movem-'~ nt ofthe people ("We are the people"!) has put an endstep by step and as an accelerating force - to the Communist system of a centrat planned economy and of the party's dictatorship. Whatever may be said about the strength of this "movement from the grassroots", we should not overlook the fact that the process of the political and economic unification was closely linked with one precondition of foreign

2 02.10.89 : 15000 people; 09.10.89 : 50000; 16.10.89 : 15000; 23.10.89 : 200000 (the first Monday after Honnecker's regime collapse); 06.11.89 : 500000 people.

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policy: the consent having been obtained of the Soviet-Union! February 5th, 1990, Mr. Gorbatchev prevailed upon the Central Committee to implement the radical political and economic reforms, including abandoning the monopoly of the communist party. The Treaty of Warsaw decided June 7th, 1990, to deeply change the agreement of cooperation amongst East European Countries. July 16th, 1990, the Soviet-Union agreed to offer the future unified Germany the full authority of deciding the question of supranational alliance. These decisions move along with two events: (1) Political and economic changes in East European Countries (however with different concepts and results); e.g. September 24th, 1990, the Soviel Union decided the introduction and implementation of a market economy. (2) USA and USSR agreed upon armaments control and trade agreements. (3) Altogether, the East-Westtensions have been sharply decreased. The "Two-Plus-Four-Negotiations" (USA, USSR, Great Britain, France and the two German States) have been successfully finalized (12th Sep. 90). - The results of the CSCE-(KSZE-) Conference were a solidbasisinternational acceptance of German Unification. Last but not least, we have to take into account that the German Unification has to be considered in the close relationship with the European Community's integration process. This concept to put together "German Unification" and "European Integration" has reduced the potential constraints against a unified Germany, which could have more political and economic influence than before. Therefore, the declaration of the FRG's Government bad a positive impact of combining the unification process with a transfer of political and economic competences in favour of the EC as soon as possible. This clear cut German political decision has Iead to a positive response effect of Community institutions: "The Unification of Germany is not only a challenge, but a chance for the Community as a whole, too. This process will increase the potentiality of investments, economic growth, trade relations and of contacts on all Ievels" (EC-Bulletin, 4/90, p.9). - The notion "alllevels" should include the international economic relations (see: interruption of GATT-negotiations at Brussels 7th Dec., 1990; the solidarity of FRG and EC with countries of the Third World). What is the reason for presenting this selective enumeration of political facts covering a span of one year? The answer is the following: (1) The radical changes of the economic systems have to be considered based on the principle of the interdependency of the different elements of an order - in relation to the political development.

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(2) The German Unification is not only an enourmous intemal challenge for the country concemed; the unification is a challenge for the European cooperation too, for EC-integration and for closer economic relations with East Europe. (3) The politically and economically unified Germany has obtained - in the Community framework - greater responsibility in the international context; not only in relation to the USA, but also to other Third Countries and especially to countries of the Third World (so-called Developing Countries). "Miracles" and "Challenges"

The EC-Commission has used the notion "Challenge", as it has been quoted earlier, for the European Community caused by the German Unification. Very often, "Challenges" do have interdependencies with political and economic "Miracles"; the use of these two keywords is common in the case of German Unification, too. First of all, we can confirm that the FRG's constitution contains the article that the political institutions should undertake all necessary efforts to unify the divided Germany. Nevertheless, the German Unification was realized in a very short period and took all politically responsible authorities by surprise: the political "Miracle" was more or less confronted with a situation for which nothing has been planned in the economic sense. "For the time after the implementation of the monetary union, no such activities have been provided in advance" (K. v. Dohnanyi, 1990). This remark does not explain that in the real situation of 1990 nothing, or insufficient measures were undertaken by political institutions; this quotation shows only that German Unification was a "political miracle"; and it seems that the proverb "Prepared for whatever may be or might happen" was not applicable to this political event. The notions "Miracles" and "Challenges" are very well known in the research Iiterature of economics; the actual discussion concerning the German Unification is sometimes compared to the "German Economic Miracle" of the 50s (explained by H.C. Wallich, 1955) and the question "Can the German Economic Mirade be Repeated?" in the 90s (F.P. Lang, 1990). "Challenges" in the economic interpretation are very weil known in Europe: JJ. Servan-Schreiber (1968) wrote the book entitled "The American Challenge for Europe"; K. v. Dohnanyi (1969) and W. Kraus (1982) have covered the same topic for "Japan"; A. Gälli (1983) and N. Kloten (1985)

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formulated the "Count Down for the Pacific Century'' (as aChallenge for the "Eurosclerosis" which is a constraint for higher competitiveness of Europe). But these types of "Challenges" are quite different compared to those with which we are confronted in 1990 ( German Unification). The firsttype is the result of the interdependency at international Ievel in the framework of a market economy: countries are competing with regard to their economic development advantages in the sense of a dynamic process. The example: if in due time Japan cutsdown subsirlies granted in favour of non-competitive traditional industries and fosters new production technologies (e.g. in South Korea, too), Europe will loose markets at home and abroad. The phenomenon "Eurosclerosis" will arise and the economic forces will increase in Europe for an adjustment of sectors with lower productivities. In the case of the German Unification the "challenge" is quite different: It is not the missing "miracle" caused by technological and managerial development, on the contrary, it is the failure and bankruptcy of the real socialism in the GDR! The adjustment of the existing economic system is not at all the· focus of the problem; as soon as possible, the change of the economic ( and political) order has to overcome the tremendous damages. In order to do away with these harmful detriments, a rational economic policy will be urgently required. The vertical change of economic systems: A new task for economic research The topic of this paper has the additional subtitle: "A Comparative Economic System's Perspective". - To cover this problem, it seems necessary to give some information in a qualitative sense: In particular, the economic sciences have covered the question of comparative economic systems on the horizontal Ievel. There was no empirical material available to investigate vertically the change of an economic-system (no doubt, the adjustment of a given economic order has been analysed carefully for both centrally planned and market economics). For a long time, it has been an unrealistic approach to Iook for a system change in socialistic countries; maybe with the exemption of some developing countries. The theory of economic systems change and the scientific discussion of this topic, both didn't produce efficient results; the "analysis of a system crisis" (M. E. Streit, 1989) has been more covered by theoretical reflections than the modelling of a system change. The transfonnation of economic

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Theodor Dams

systems has been theoretically very well described in a formal sense (K. C. Thalheim, 1955); on the contrary, the scientific conceptualization has been materially weakly formulated; e.g. we should break through the opposite system by "following the principles of a market economy order, by formulating the content as well by establishing the institutions"; and this procedure should take into account that "the burdens of this systems change should be bearable". - In this context, the creation of new wording cannot help us to escape the theoretical dead-lock: this performance could not produce "a pure market economy; in order to be feasible and perform the duties as well as to be acceptable for the society, this market economy system could contain a certain "degree of dirty elements".- Maybe these representatives of economic sciences are looking for a new and different notion of "mixed systems"! At the beginning of the New Year 1991, Vaclav Havel, President of CSFR/ Czechoslovakia, formulated a precise wording in relation to the change of an economic (and political) system: this period of change is producing everytime new situations of crisis and these contain quite a Iot of sacrifices and uncertainties! But one cannot escape from this crucial situation. Why not? In this case, new distorsions will be produced by deciding for a more moderate way of system change.

The conclusion: there has tobe a pre-decision (first step) in favour for a market economy; the next step should cover- ex ante- the possible impacts which are connected with the implementation of this political order. To combine both steps, a compatible economic process policy should be designed to influence the adjustment of production factors; this so called "Process-Policy'' ("Ablatifpolitik") - in comparison to "Order-Policy'' ("Ordnungspolitik") - has to be more accentuated in the beginning of an abrupt change from a socialist to a market economy; the intensity of this "ProcessPolicy" can decrease incrementally in such a way that the efficiency of factor allocation increases by having implemented the instruments of this policy concerned. Both the policy of economic order and the policy of influencing the economic process (by state interventions), have to be one unit; and an institutionalization should avoid isolated and inconsistent interventions being implemented which destroy the economic and political order of a market economy (C. Bresciani-Turoni, 1948).

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Economic unification: "Step by Step" versus "One Jump" realization of the German internal market In the beginning of 1991, this alternative has a pure hypothetical significance: according to the Treaty of the two states, July 1st, 1990, the monetary Economic and Social Union has been established; with this decision the "most important preconditions for an operation of the Social Market Economy has been implemented." (Deutsche Bundesbank, 1990.) At an earlier stage, an alternative was reflected: a pragmatic-practical way to change the socialistic system to a market economy. In such a manner, some concepts have been discussed with the "old" GDR-Government (Prime Minister Modrow visited Bonn in March 1990) and this Government by its own has - before the Berlin Wall feil- presented some ideas of a so called "particular way" (M. Gerlach, 6.11.1989). In the beginning of 1990, there were no doubts that the GDR economy was in a bad situation of a complete collapse. In particular the migration of people leaving the GDR to go to the FRG had sharply increased: in four months alone (October 89 to January 90), more than 300.000 people left the GDR. And "this voting with the feet" at this time was increasing and having a negative impact for both parts of Germany (the Iack of qualified workers in the GDR; higher social costs for the FRG). This "de-facto-situation" pushed negotiations between the two Governments (GDR bad a free election March 18th, 1990); and within a short time span an agreement has been signed to start on July 1st, 1990, the single economic market based on a common monetary, economic and social union (that of the Fed. Rep. of Germany). Some experts and economists doubted that this concept and its implementation was feasible. The very low productivity of the production units would not permit this way of transforming the system, enterprises couldn't survive under these circumstances! In the beginning of 1991, we can confirm that the decision taken in the mid of 1990 was economically and politically justified. Why? Those clear cut signals of the market economy order have been placed, which were very important for the rational adjustment process of private enterprises and households. Such an adaptation was linked with frictions related to firms and Iabor market. But, it would be a great mistake to believe that a "step by step" performance of the socialistic system's transformation could avoid these burdens for the individuals (furthermore, this pragmatic way has never been presented in a concrete feasible concept, K. v. Dohnanyi, 1990). - The examples of Poland (the GNP has decreased one third in a relatively short

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term), Hungary, CSFR and other East European Countries give quite good empirical figures to test this assumption! And the countries mentioned above have handled their transformation inside of the national borders themselves. Furthermore, in such calculation of the system's transformation, we should take the social costs of a "step by step" performance into account, which are mainly caused - as external effects - by people leaving the economically depressed areas of GOR. German unification: A simple process of accelerating growth•••

A Statistical Yearbook indicates (1989) that the Fed. Rep. Germany has the second highest per capita income in the EC (Oenmark has the frrst position); the German Oemocratic Republic is reported to have taken- there is different information - the tenth rank. No doubts, very often international statistical comparisons do have some deficiencies, nevertheless we will take the facts as data.- Nevertheless, in the GOR, the per-capita-income reached half of the value earned in the FRG. There are some calculations which are presented covering the problern of the duality of the economies (FRG-GDR), which should be overcome as soon as possible; for example: (a) If the two parts of Germany are lumped together, the "new'' Fed. Rep. of Germany will go down to the fd'th position in per-capita-income. (b) Under the assumption that the growth rate of the economy would be three timesthat of the former FRG's value (7,5 % vs 2,5 %/year) the per-capita-GNP of the GOR would reach the Ievel of the FRG in the year 2007.- On the contrary, the GNP of GDR has sharply declined; the German Institute for Economic Research (OIW, Berlin) has estimated for 1990 a nominal GNP decrease of 6,5 %, and in 1991 a decline of 2 %. Furthermore, the representatives of "a strategy for accelerated growth" are presenting the following argument: the Ex-GOR has today a Ievel of economic activity which is comparable with the economic situation of the FRG in the year 1965. And it should not be so difficult to bridge this gap in a shorter period than 25 years! All these simple statistical comparisons over time are not appropriate to analyse the political and economic problems of German Unification as a whole and to explore the concept and measures to remove the duality of the two parts.

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The basic d.ifferences of economic systems "The Catching-Up" process- producing a higher Ievel of growth- depends on an economic order which indicates the scarcity of goods and production means. In comparing the economic systems - the socialist and the market economy - there are no gradual, but essential differences. In other words the simple difference in the living conditions between GOR and FRG is not the main problern of German U nification, rather (it is) the opposing principles of the socialistic system, with central political decisions and a command based economy. This divergency - compared to a market economy - makes the economic unification of Germany so difficult and harmful with great frictions. There are some "stories" - presented by psychologists, technicians and economists - which are intended to demoostrate the tremendous difficulties of a system change from the socialist to the market economy. Some examples: The Ex-GDR was like a "psychiatric ward": people who were in relatively normal healthy condition were imprisoned. Everything was managed and regulated - with a low quality - by a central authority. But these adults were put progressively under tutelage. Some time later, the directorship declared the bankruptcy of the ward and explained that in the future the inhabitants should do all work by themselves; but the inhabitants were not at all interested "to paint the walls of this uncomfortable building and ... further ... more, the inhabitants didn't have the competence to do so, due to the fact of having always been taken care of' (H. Schubert, J. Buteweg 1990). The civil engineer describes the distortions of the economic order in bis professional language as follows: he has two completely different engines analogaus to the two contrary economic systems! He has to integrate the two different machines into one, but they are different in norms and measures. How to do this work? On one band the civil engineer has a passenger car engine built in the year 1990; on the other he has a tractor engine of the year 1957. How to combine both - taking into account the big divergencies? And this operation should be implemented - to complicate the procedure - when the engines are running! (K. v. Dohnanyi, 1990). The economists in theory and politics are using other categories to demoostrate the distortions and failures of the real world socialism. The impressive picture contains the following elements: First of all, individual property rights and disposal rights are unknown: ca. 9.500 state owned enterprises for industrial products and for services; 4.650 production units (state owned and collective production) in agriculture (average farm size in plant production: 4.500 ha; pig production ca. 185.000 animals). At this point 2 Matsugi/Oberhauser

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the advantages should be mentioned which are linked with private property and representative democracy: individual motivation, self responsibility and risk bearing, indication of scarcity for input and output relations. The decentralized decisions (consumers and producers) and their market coordination were the basic principles of this economic order. They were to be integrated into a macro-economic framework, established by political authorities. In a socialist order, the local collective is the principal element of the centrally planned economy, governed by the communist party. Furthermore, as an administrative unit, it is responsible for the communal infrastructure. The result: politically fvced price distortions, far from market prices determined by scarcity, for consumption as well as for production. The construction of infrastructure has been sharply neglected and severe ecological darnage has been caused by technological external effects. Both are due to political decisions and they allowed the economic and political system to survive a little bit longer. - The GDR-economy was not integrated in the international economy. The missing international competition lowered the adjustment forces for the internal economy to be competitive in prices and quality on international markets. The GDR-economy mainly exported its products to East European socialist countries, in particular to the USSR, a one-sided orientation. And this distorted orientation, which was not influenced by comparative economic advantage was not changed at the very time when East European countries were changing their systems into market econom1es. The political authorities were confronted with the following question: taking into account the very severe economic situation of the GDR, what should be done? And the decision should take into account that the people of the GDR wanted German political unification! The monetary, economic and social union We will repeat once more: the interdependencies of the political, social and economic subsystems in one political order and the impossibility of realizing a step by step economic unification of Germany. Considering the full geographical mobility of inhabitants, no other decision was possible but to transfer the legal and economic order of the FRG to the GDR. This required an abrupt break with the existing economic system of the centrally planned economy - with the weil known harmful frictions: for people, enterprises and households.

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Focal points for establishing the Germansingle market

The establishment of a functional single market- starting July 1st, 1990bad to take into consideration the following focal points: a) the guarantee of individual property and disposal rights concerning the production means as a precondition for workable factor markets. b) the establishment of the monetary union; in other words, the introduction of the DM as legal tender; the application of the relevant legislation; the introduction of social security legislation and measures according to the status in the FRG. c) institutional rules on the micro- and macro-level regulating processes in a market economy. d) defmition and conception of the bundle of measures covering process policy to foster the adjustment of enterprises in order to support internal and international competitiveness. The most important focal points are described in a) and b). The "Berliner Treuhandgesellschaft" (responsible for the privatisation of state-owned enterprises) is faced with great difficulties. A large part of the enterprises has to be fmancially restored! No doubt, the activity of this institution mentioned above has a structural and regional impact; but the "Treuhand" does not have and does not want to have any decision-making competences in this field of econ.omic development. There is tremendous work to be done: more than 110 billion DM debts originating from GDR decisions; the ecological darnage caused by the industrial and agricultural enterprises which have to be paid for by these microeconomic units. Furthermore the sharp reduction in the number of unproductive workers currently employed (hidden unemployment) requiring social plans at micro Ievel; new investment for modernisation (loans). Last not least the precondition for a workable market economy has to be a qualified management. There are an estimated 12.000 people for the executive and 30.000 members of supervisory boards to be engaged. The introduction of monetary union (July 1st, 1990) and of the Deutsche Mark were the two main decisions at this time. There was great uncertainty about price stability. The centrally planned economy did not have correct figures which could be used to estimate the consequences. Furthermore, the alternatives of foong the currency rate "East Mark - Deutsche Mark" have created some trade-offs: (1) the risk of stimulating inflation; (2) the competitiveness of the enterprises; (3) the financial burden for the official

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budgets and (4) the identification of the people with the measures undertaken (Deutsche Bundesbank, 1990). The "key figure" for the currency rate bad to take into account the low Iabor productivity in the GOR: 40 % of the FRG's Ievel! There were alternative options for the currency rate (M/DM): to start with the elimination of price distortions and to compensate the Iosses of wages {2:1; Deutsche Bundesbank) or to pay the actual wages (Basis: Wage Agreements of spring 1990) and to fix the currency rate 1:1 (Bundesregierung). The latter alternative was taken. Whatever will and has been decided, the chances of a successful adjustment of enterprises will be mainly influenced by the development of Iabor productivity. For smaller savings, a currency rate 1:1 has been decided; the debts of enterprises were reduced by 50%.Wehave only mentioned some aspects of a very complex phenomenon. The Federal Government bad the competence to fix the currency rate, the Deutsche Bundesbank has worked as an advisory body. But we have to take into account that the Deutsche Bundesbank is an independent institution which is responsible for maintaining price stability. The instrument used to reach this objective is monetary policy. By doing so, the Deutsche Bundesbank has to take care that the adequate economic growth will not be negatively affected. The increase of the official budget requires a higher debt which has to be financed by private capital market. This raises the interest rates influenced by the price stability oriented policy of the Deutsche Bundesbank. These facts demoostrate that the Deutsche Bundesbank is a very important institution in guaranteeing the market economic order. No doubt an adequate institutional mechanism will have to be built up in the Ex-GOR in the near future; on the micro-economic Ievel (cooperative mechanisms between management and workers), on the federallevel (internal fmancial transfers amongst the Länder) and on the macro/regional Ievel (e.g. independent commercial banks, regional development policy). The effectiveness of a market economy and of the market as an institution is - without any doubt - confrrmed. In relation to the efficient economic adjustment of branches, enterprises and regions related to the market mechanism, there are some political hesitations in accepting the market as the only institution. Do we need an industrial policy, a regional policy etc.? Such an orientation requires that complementary economic measures are accepted to foster the restructuring of parts of the economy (by industrial/

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regional policy) on the regional Ievel. In whatever way, these options will be discussed - there are divergents opinions! Structural and regional policies have to be developed by the "Länder" in a federal system; the new "Bundesländer" have been established in October 1990. It is premature to reflect what will happen in the near future concerning this type of economic policy. - Nevertheless, the Ex-GDR is integrated into the so called "Gemeinschaftsaufgaben" of the FRG (common tasks which are jointly fmanced by the Federal and the "Länder"-Budgets). Finance from EC-funds (Social, Regional, Agricultural/Structural Funds) can be obtained from these institutions by the "Länder" of the Ex-GDR. We should mention that an efficient structural policy depends upon an effective administration; and in this context we do have tremendous deficiencies in the Eastern part of Germany! Agriculture of the Ex-GDR • adjustment under EC-conditions

Thus far, we have analysed the different aspects of economic difficulties on the micro- and macro-level connected with German Unification. Maybe a sectoral approach can demoostrate the comprehensive adjustment process caused by the systems change from a socialist centrally planned economy to a democratically based market economy. - The agricultural sector is a very good case study to quantify the difficulties: starting July, 1st, 1990, the market prices and regulations of the EC have been adapted; that offers an opportunity to compare the GDR situation (until the end of June, 1990) with the new EC-situation (July, 1st, 1990). Let us evaluate the situation of the GDR-agriculture for the year 1987. The gross production value was 80.8 billion East-Mark, the corresponding input {42.7 billion) results in a contribution to GNP of 33.6 billion EastMark. - Now we deduct the wages (8.7 billion) and interest (1.4 billion) the result: the net-gain (which has tobe transferred to different funds of the socalled socialist giving in accounts) is 20.1 billion Mark. Furthermore, 0.6 billion Mark has to be deducted for "salaries for workers in the nonagricultural socio-economic activities" ( of production collectivesfstate owned farms). At the end, the net gain (income) is 19.6 billion East-Mark. Now, we turn to the market economy system as a new condition of the GDR agriculture (July 1st, 1990). The question is the following one: what will happen regarding the net-gain (income) mentioned above if the same output volume (1987) is used which now has to be differently valued taking into account the EC-prices in DM?

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The result of this estimation: The gross value of the production decreased by 60% (30.7 billion DM), but the input prices decline too (by 50%). The contribution to GNP shows a sharper decline, four flfths (amounting to 6.6 billion DM)! Taking into account depreciation, subsidies and taxes, we will have a balance of 3.5 billion DM. This amount has to pay the wages and the capital interest. With a currency rate 1:1 (see: above), GOR agriculture makes a loss in the EC market system (and it should be stressed that the "market" system with its price Ievel is protected against the world market) of 6.8 billion DM! If depreciation and the payment of interest (cash-flow-basis) is not deducted, only approximately 70 % of the wages paid in 1987 would be covered by the agricultural holdings. This unsatisfying economic situation of East German agriculture is caused by (a) tremendously low efficiency in factor allocation and (b) partially by the low quality of the product supply (Wissenschaftlicher Beirat, BML, 1990). The proposals to eliminate these deficiencies are the following: to reduce the input of factors; a sharp decline of Iabor input, the abandonment of marginally productive land, and an efficient management of the agricultural enterprises. An interim statement

The main points of the analysis - presented above - were more or less focussed on the question of the political and economic order of the German Unification; and the results obtained have been used to evaluate some aspects of the economic adjustment process. The sectoral analysis "Agriculture" has presented an impressive picture of economic repercussions linked with a change of a socialist system to a market economy: The economic turn-araund from "gains" in the socialist system to deficits in the market economy! These economic calculations cannot demoostrate the process of the transfer from state-owned/collective property to private ownership/property rights/disposal rights. A task of this importance and of this magnitude which has been caused by the abrupt change of the economic and political order has never occurred in the history of the market economy. The main problern will be to foster competitive jobs in the region of the Ex-GOR and to fmance this process, including the infrastructure (W. Zohlnhöfer, 1990). First of all, the results of the "answer" to the "challenges", which we have described, will first of all be of German concern. Nevertheless, the German Unification has to be considered in a very close relationship with two European "Challenges":

Unification of Germany

23

The European Economic Integration (West-Europe) and the change of economic systems in East European Countries. The slogan "Under the roof of the Common European house" is very weil known! The positive answer related to these two European challenges mentioned above could provide for a solid basis for Europe as a whole to contribute more to enlarging the international division of Iabor and to deepen worldwide international economic relations. The new dimension of European integration

The implementation of the Treaty of Rome (EEC, 1957) has shown successes and failures since the beginning of European Economic Integration. Nevertheless, the potential results of establishing a common internal (single) market are visible (EC Commission 1985, 1986). There are no doubts that the German Government and Parliament - since the end of 1989 - have made greater efforts than before to aceeierate the European economic integration process, and furthermore to support European political union. This political union has to be a higher ran.king political goal than the European single market (starting 1st Jan. 1993). In this context two questions are raised: (1) The realization of an Economic Union is closely connected with two topics: (a) the effective coordination of the economic policies of the member states with the objective of a common EC economic policy; (b) the establishment of an independent EC Centrat Bank and the introduction - in the long run - of a single EC currency; (c) the implementation of a common EC monetary policy. But this laUer goal can only be achieved with a very weil coordinated, or common fmancial policy. In recent years, the inflation ratescompared between the member states - were quite different; there is a wide gap between Germany and Benelux, and the countries of the South. In other words: the common goal of price stability should be reached using adequate measures. (2) The objective of the EC's economic integration has to be linked with the aim of the realization of a political union. Such a plan has been presented again and again for more than two decades (starting during the period of President Pompidou, in 1972 he stated: "A European Political Union has to be realized until the end of this decade"!). In the second half of 1990, the German Government strongly supported the implementation of a political union. This support can be interpreted in such a way that the German unification integrated in an accelerated implementation of the political union

24

Theodor Dams

would fmd a hlgher degree of acceptance by the European partners. The cooperation "France - Germany" is a solid basis for reaching thls objective. Nevertheless, there are quite different options- with regard to objectives and timetable - formulated by the different member states: a) The priorities "Economic Union" or "Political Union" are quite differently formulated. Why? The establishment of an "Economic Union" is closely interrelated with far-reaching political decisions. Therefore EC-Europe should start with the Political Union as soon as possible, as a precondition for Economic Union. Thls positionwas presented by representatives of German industry (D. Spethmann, 1990). b) For France, which has a relatively "soft" currency, and for the EC Commission, the establishment of a monetary union will be an institutional way to overcome the strong position of the "hard" currency DM and of the independentDeutsche Bundesbank (within the framework of the European Monetary System, EMS). The Federal Republic of Germany has another objective: to strengthen the political competences of the European Parliament. By the next European election, this institution should be a "real parliament" which has to have "the last political word" (H. Kohl, 1989). Without question, the German position is politically - more ambitious than the French. c) EC-members with "weaker" economies (e.g. Greece, Ireland and Portugal) have delaying of integration in mind. Nevertheless, what kind of union should be realized, the economic or the political one? Fixed currency rates and a common monetary policy will cause internal difficulties for these countries which they cannot solve by themselves under the new conditions. The reason is that they have transferred national competences to the supranational Ievel! The German unification as well as the change of political systems in East European countries have been used as arguments to postpone further steps towards integration. Both processes require large fmancial transfers. Therefore, the EC-funds cannot cover the whole expenses including the structural development of Southern Europe and the backward areas of the EC. A "friction-free adjustment" will not be possible. An additional argument is the negative impact of the Golfcrisis (O.G. Mayer, 1990). d) Since December 1990, the approaches towards the "Economic Union" and the "Political Union" are being actually negotiated in two different circles. This is not a very positive precondition for a European integration as a whole!

Unification of Germany

25

Already before the German unification, the European Economic Community has made all efforts to take decisions towards the establishment of the single market "Europe '92"; and the EC Commission has investigated the advantages of "Europe '92" ("Costs of Non-Europe"). The so-called CECCHINI-Report (1988) compares the economic results under different conditions: (a) with complementaryeconomic measures and (b) without these complementary economic measures. The positive impact is an increase of economic growth (a: 4.5 %; b: 7.0 %); decrease in the inflationrate (a: 6.1 %; b:- 4.5 %); more jobs (a: 1.8 %; b: 5.2 %); fall in the public deficit as percentage of GNP (a : 2.2 %; b : 0.4 %) and the contribution of foreign economic relations as percentage of GNP (a : 1.0 %; b : - 0.2 %). These figures show the positive effects of the single European market '92. That is the positive result for the EC as a whole. But for some branches and regions there is not "a friction-free adjustment" in the transition period (T. PadoaSchioppa, 1988; F. Franzmeyer, 1987). In other words, in some cases the costs of European integration have been neglected or underestimated (trade diverting effects, "Fortress Europe", social friction in the Iabor market etc.). Nevertheless, the EC economy will grow stronger than any time before and, therefore, Europe will be an important political force to solve internal and international problems better than before. In relation to the German unification, we present two reflections: (1) In the frrst stage of Europe '92, the economically backward regionswill suffer adjustment frictions, and industrial locations with low productivity will loose production as weil as income. The German unification will produce a comparable situation at the beginning of the integration process; the Iabor market is a very good example. (2) The EC should practice a liberal policy in relation to the world market; and the higher Ievel of economic growth will be a dynamic force for the intensification of world-wide economic relations. German unification will stimulate the economic growth of the FRG and make the country an "engine of growth" for the EC and the world. According to some estimates, two years after the implementation of monetary union, economic growth rate will increase by a further 1 %, in the FRG and by 0.5 % in the EC as a whole. German unification (beginning July 1st, 1990) and the establishment of the single market (EC '92), as weil as the implementation of the monetary and of the political union will in the long run have some impact on the economic development of the world economy. Economists are challenged to figure out the trade creating and diverting effects of EC-integration m relation to the objective of supporting a growing world economy.

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Theodor Dams

The change of economic systems in Eastern European countries Besides the relation to EC integration, the German unification has some repercussions on the economic development ofEast Europe. We must realize that internal German change, i.e., the unification of Germany, has been accompanied by the change of economic systems in East European countries. All these countries have greater or smaller difficulties in the process of change in economic political systems. They have taken the frrst steps towards reform with different degrees of intensity and different results. For the Soviet-Union one can remark that there is a system transformation, but no system change! (K. Segbers, 1989). We will not investigate the internal system change or the system transformation of these countries (see: K. Bolz, 1990), this analysis only covers the changed relations of Eastern European countries with unified Germany and the EC: a) The treaty with Poland concerning the acceptance of national borders was the basis for broad aid and loan programs; in this concept Russia was included to overcome the actual economic crisis. b) The EC-members made great efforts in the field of financial measures for Eastern European countries in order to support the adjustment of the economy. The EC has established a special bank for this purpose. In relation to the German unification, the solution of the following problems do have a priority. (1) The Ex-GDR's trade relations with the Eastern European countries (in particular with COMECON/SMEA). (2) The export advantages of the GDR's production with regard to East Europe. The GDR's export quote only reached one quarter of the GNP, a relative low figure compared with other countries in West Europe. Two thirds was exported to COMECON/SMEA and 37% to the Soviet Union, mainly in investment goods (DIW, 1990). The GOR imported energy and raw materials. This type of trade was characterised as "complementary foreign trade", which generates "lower contributions to economic welfare" compared to substitutive international trade (EC-Commission, 1990). The export products coming from COMECON/SMEA into the GDR did not correspond in prices and quality with those supplied on the world market. There are estimations that the trade volume - except energy - will sharply decrease in 1991 by one third of 1989's volume. The GDR enterprises, located in the five "new Länder", will import products of higher quality coming from the "old" FRG and Western industrialized countries.

Unification of Gennany

27

But we should realize that the Ex-GDR is confronted with the same situation: with a "hard" currency in international trade, Eastem European countrieswill import products of higher quality and at comparably low prices. Last but not least, they will decide more "prudently'' in the field of international trade. These results of the analysis already answer the second question concerning comparative location advantages of Ex-GDR exports for East Europe: the change in economic system in Central and East Europe will produce - in the long run - situations which are comparable to those very well known in international trade (prices, quality and product differentiations); always under the preconditions of a liberal and liberalized world market! For the GDR: the enterprises have to be competitive in the German internal market as well as in international economic activities. In the past the GDR bad "artificial, technical based advantages" within the COMECON/ SMEA. These have tobe changed to comparative economic advantages. Some final remarks • conclusion This paper dealt with the main problems and principles of German unification: the evolution and development of the political and economic unification process - the theoretical reflection with regard to a vertical system change - the pragmatic versus immediate Gump!) realization of the German internal single market - the concept of adjustment in the institutional framework of a market or by massive fmancial transfers (or a combination of both) - the challenge for a consistent economic policy- (last but not least) the German unification in relation to EC integration and to cooperation with East European countries. This paper contains some current information and statistical facts; but was more focussed a description of important political (pre-)decisions and long run development. This is the reason for presenting - at the end of this paper - some actual information on the economic situation and development of the Ex-GDR, half a year after the implementation of the monetary and economic union. Some historical experiences in Europe indicate that integration can Iead to some negative economic and social repercussions for economically weak enterprises, branches and regions: e.g. the political unification of Italy in the last third of the 19th century. The South (Mezzogiorno) didn't have a chance

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Theodor Dams

of faster economic development, on the contrary an economic decline occured! This problern of desintegration of parts, or in regions by integrations (of a national economy) exists in the EC, too. The CECCHINI-report (1988) informs that in the initial period of "Europe '92" the productivity divergencies will be accentuated, e.g. a decline of jobs in some backward areas andjor enterprises with low Iabor productivity. Taking into account these historical and current experiences as weil as the recognition of the industriallocation theory, we should not be surprised that the Ex-GDR is in a economic process of decline. To demoostrate this adjustment process, we present the following facts: (1) In 1990, there was a sharp duality in economic growth between the two parts of Germany: West: +4%, East: -16%. This dt:.:..ilne will continue in 1991 ( +2.5% compared to -10%). The OECD prognosis says that the "old" FRG will have positive growth rate in 1992. According to the OECD the economic growth rate for the "new" FRG is estimated +2% in 1990 and 1.5% in 1991. But the decline of growth rates in the Ex-GDR will be remarkable. (2) For the Iabor market, comparable indications are presented: increase of job opportunities in the West and, against this, a decline in the East. The number of unemployed is more or less stable in the "old" FRG (1990 91), in the Ex-GDR it is increasing. The high degree of hidden unemployment of the GDR's real socialism is now visible in a market economy. (3) For the FRG, the determinants of economic growth have sharply changed in 1990 (e.g. in the case of investment goods). The growth rate for foreign demand of investment products declines, compensated by internal domestic demand. All in all, the growth rate of this sector remains a positive one, but with quite a different composition. (4) There is no doubt that the demand of the Ex-GDR is an "engine of growth" for the West German economy (1991: ca. 40 Bill. DM from the Ex-GDR will be spent on West German products). And this demand is partly caused by heavy fmancial transfers coming from the "old" FRG. An integration with the pre-decision in favor of a market economy has to be accompanied by state intervention, which has tobe compatible with the principles of a market order. Such a process policy should on one band support the GDR economy in the restructuring process (increase of Iabor productivity) and on the other band alleviate the social burden of adjustment.

Unification of Gennany

29

The efficient implementation of this concept requires the financial means. In earlier years, the official objective was formulated and partially reached to reduce the absolute yearly amount of new public debts (see: comparison "old" FRG 1988 and 1989, Federal Budget). The German unification requires more fmancial means. How to finance the German unification? The theoretical alternatives: higher taxes - decreasing the expenditures - increasing the official debts. All means will be taken into account: the higher involvement of net-debts of the Federal Republic, of the Länderand the communities will be indispensable (1989 - 26 Bill. DM; 1991 - 100 Bill. DM.; 1992 - 120 Bill. DM estimated). At the end of 1990 the magnitude of the costs caused by the German unification was a central topic of the election campaign on the federallevel. This is not ending. What will the financial burden of the public households be? What sources can cover the necessary expenditure? How can the burden be distributed amongst the different groups and branches of the society and economy? At the present time no definite answers can be given. Only two remarks can be derived from the current situation. (1) The forcast that monetary union (July 1st, 1990) would be a source of higher inflation was not justified; at the end of 1990, the rate of inflation has not reached 3% p.a. (last information for December: 2.7 % ). (2) The German capital market has developed a high flexibility to cover the increasing demand for public needs - without any problems and at a reasonable interest rate. The interest rate in Germany has risen remarkably (FRG 1989: 7 %, end 1990: 9.1 %) and is higher than in Japan and USA. The differences in real interest rates aremorefavorable in FR Germany than in other countries. (In Germany, we have double the real interest rate of the USA). This situation will influence the international capital flows in favor of the FRG and will produce some conflicts within EC Europe (between FRG/Benelux and the "rest") as weil as between the USA and the FR Germany. All in all the Ex-GDR's adaptation to frictions in society and economy are and will be very severe. The tendency to produce a greater duality of the economy (West-East) in future, will be stronger than even before. Perhaps it has tobe accepted in the short run (market mechanism and adjustment by com petition) and in the long run such a trend of widening socio-economic dualism. The constitution of the FRG contains the obligation to secure comparable living conditions for the inhabitants within the German borders. To reach this objective, a consistent economic policy is needed; the elements of such a concept have been described earlier. In Germany we do

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Theodor Dams

need an efficient economic policy which can feasibly eliminate the existing big differences in well-being. In the actual situation of divergent welfare in both parts of Germany the argument has been brought forward that the "institution market" and the "market economy'', both, "have broken in painfully'' to the existing socialist system. This wording is completely wrong! In the book "The German Uncertainty" (refering to the unification question) another reflection has been presented: it is not the market economy that has broken in painfully - not at all. After 40 years the regime of a socialist centrally planned economy has broken down painfully.

References Bolz, K. (ed.): Die Wirtschaft der osteuropäischen Länder an der Wende zu den 90er Jahren, Harnburg 1990 Bresciani-Turoni, C.: Einführung in die Wirtschaftspolitik, Berlin 1948 Buteweg, J .: Die Trägheit in den Köpfen. In: Badische Zeitung, 31.12.1990 Cecchini, P.: Europa '92: Der Vorteil des Binnenmarktes, Baden-Baden 1988

Deutsche Bundesbank: Monatsberichte, Frankfurt, No. 7/July 1990 Deutsches Institut für Wirtschaftsforschung: Außenwirtschaftliche Verflechtung zwischen der DDR und der UdSSR. In: Wochenbericht 21/90, Berlin 1990, p.285 Dohnanyi, K.v. : Das deutsche Wagnis. Die Risiken der deutsch-deutschen Vereinigung, München 1990 Dohnanyi, K. v.: Japanische Strategien oder das deutsche Führungsdeftzit, München 1969

EG-Kommission: Vollendung des Binnenmarktes. Weißbuch, Luxemburg 1985. Einheitliche Europäische Akte, Luxemburg 1986 Emerson, M.: Europas Zukunft: Binnenmarkt 1992. Eine Bewertung der möglichen wirtschaftlichen Auswirkungen der Vollendung des Binnenmarktes der EG. In: Europäische Wirtschaft, No. 35, March 1988 Eucken, W.: Grundzüge der Wirtschaftspolitik, Tübingen 1975

Europäische Wirtschaftsgemeinschaft: Vertrag zur Gründung der Europäischen Wirtschaftsgemeinschaft, Rom 1957 Galli, A.: Wachstumsmärkte in Fernost, München 1983

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Gerlach, M.: "E'.s ist eine Revolution - die DDR ist seit Oktober eine andere, als sie vorher war•. In: Der Spiegel, Harnburg 6.11.1989, p.32 Hrbek, R.: The EC and the Changes in Central and Eastem Europe. In: Intereconomics, Harnburg 1990, p.131 Kloten, N.: Countdown zum "Pazifischen Jahrhundert•. In: Indo Asia I/27, Frankfurt 1985

Kommission der EG: Die europäische Gemeinschaft und die deutsche Wiedetvereinigung. Bulletin der EG. Beilage 4/90, Luxemburg 1990, p.9 Kraus, W.: Die japanische Herausforderung, Berlin 1982 Lang, F.P.: Can the German "Economic Miracle" be Repeated? In: Intereconomics, Vol.

25/0ctober 1990, p.248

Mayer, O.G.: European MonetaryUnion- Why, When and How? In: Intereconomics. Vol. 25, Harnburg 1990, p.213 Padoa-Schioppa et al.: EffiZienz, Stabilität und Verteilungsgerechtigkeit. Eine Entwicklungsstrategie für das Wirtschaftssystem der EG, Wiesbaden 1988 Segbergs, K.: Der sowjetische Systemwandel, Frankfurt/M. 1989 Servan-Schreiber, J.J.: Dieamerikanische Herausforderung, Frankfurt 1968 Spethmann, D.: Erst die Politische Union, dann die der Währung. Der Gipfel der Staats- und Regierungschefs sollte neue Prioritäten setzen. In: Die Welt, Bonn, 12.12.1990, p.2 Streit, M.E.: Ordnungspolitische Überlegungen zur Systemkrise in der DDR Working Paper, Mannheim 1989 Thalheim, K.C.: Zum Problem der Einheitlichkeit der Wirtschaftspolitik. In: Muhs, K. (ed.): Festgabe für G. Jahn, Berlin 1955 Wallich, H.C.: Triebkräfte des deutschen Wiederaufstiegs, FrankfurtfM. 1955

Wissenschaftlicher Beirat beim Bundesministerium für Ernährung, Landwirtschaft und Forsten: Stellungnahme der Arbeitsgruppe "DDR-Landwirtschaft• zum Problem der Integration der Landwirtschaft der DDR in die Wirtschafts-, Währungs- und Sozialunion mit der BR Deutschland, 1990 Zohlnhöfer, W.: Das Schlüsselproblem der deutsch-deutschen Wirtschaftsunion: Schaffung wettbewerbsfähiger Arbeitsplätze in der DDR In: List-Forum für Wirtschafts- und Finanzpolitik, Vol. 16, 1990, No. 3, p.191

Public Finance and the Transfonnation Process to Market Economies in the Countries of Eastern Europe Alois Oberhauser

The economic difficulties of the transition of formerly centrally planned economies to market economies are great, in most countries even greater than the political difficulties. They not only result from the fact, that the prerequisites for the desired transformation of the economic order are only being achieved very slowly, but also because the transformation process is bindered by considerable frictions. Less production and high unemployment are the result. The necessary changes in the price structure are in some countries overlapped by strong increases in the price Ievel. The efforts of government and unions to compensate the price increases by wage increases continously Iead to new inflationary impulses. These are worsened by decreasing production. Amidst all these negative signs some positive beginnings may be found. A great variety of private initiatives has emerged, free markets are developing and in some countries shelves, which always used to be empty, are fllled with goods. Much more important for the future is, however, that production and productivity must increase substantially. This is possible. Almost all West European countries, most recently Spain and Portugal, and quite a few EastAsian countries, beginning with Japan, have experienced so-called economic miracles in the last decades. Similar developments are possible in Eastern Europe 1• The prerequisites for this, however, are very different in all countries. They are most favourable in the former German Democratic Republic and worst in those countries which do not commit themselves to a

1 Spahn, H.-P.: Das erste und das zweite deutsche Wirtschaftswunder, in: Wirtschaftsdienst 71. Jg., 1991, p.73ff. Trelmeyer, H . und Guth, W.: Twoviews of Gennan Unification, Washington 1990.

3 Matsugi/Oberhauser

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consequent market orientated policy. This is especially true for the Soviet Union. Whether the prerequisites in the different countries can be reached, is not certain. The great chance of an economic upswing in the Eastern bloc countries rests with the possibility to take advantage of the technical knowledge that has been developed in the western industrialized nations. Strong increases in productivity will be the result. This one economic fact is the basis of all empirically proven economic miracles that took place during the last few decades. To be able to utilize this technical knowledge however, substantial investments, the relevant know-how and entrepreneurial initiative are needed. Economic and fiscal policy have to concentrate on this and create the necessary conditions. The following considerations are going to concentrate on those aspects of this growth process which are relevant to fiscal policy. The question is, what fiscal policy will be necessary in the Eastern bloc countries. We may make use of some of the experiences that were gained in the former GDR, the socalled new federal states of the Federal Republic of Germany. The situation in these new German federal states is, however, in some aspects quite special. The transition from a centrally planned economy to a market economy requires a complete restructuring of public fmances. We may distinguish between four problems. 1. Previous governmental receipts will in most cases cease to exist and will therefore have to be substituted by other kinds of taxes and revenues. 2. The expenditure structure must be completely revised. 3. The privatization of public wealth will absorb savings; privatization will also induce capital imports. 4. Over and above that we have to ask, whether an increase of domestic or foreign public debt may be used to fmance the necessary public expenditures. 1. The restructuring of taxes and revenues Socialist countries normally do not utilize the kinds of taxes which are found in western countries. Most of their receipts stemed from product-based revenues, which were paid by the state-owned companies. This revenue system is quite differentiated and shows considerable differences between the single industries and companies. As most investments were fmanced through the public budget in socialistic economies, the state-owned companies in most cases could not keep earned depreciation or profits. Instead they received the funds necessary for investments from the central government.

Public Finance and Transformation Process to Market Economies

35

In economic terms, most of these company contributions may be viewed as laxes. They are, however, very strongly individualized, with very different bases and rates. This means, that the tax-like contributions, earned depreciation and profits cannot really be distinguished from one another. The transition from a socialist to a market economy is characterized by achieving factual, or at least legal independence of companies from the state and by those companies being able to make their own decisions, without having to consult some governmental planning institutions. Therefore the state now faces private companies on the one side and private households on the other. To be able to keep up its remaining tasks, the state depends on receipts. It cannot get these out of state-owned production anymore. The state has to collect them as taxes and contributions, from private companies and households. In the new states of the Federal Republic of Germany, this problern was solved by transfering almost the complete West-German tax and revenue system, with only a very few exceptions. Income and profits are subject to income and corporation laxes. Company turnover is subject to a value added tax. Social security is fmanced almost completely by contributions, which are bornehalf by wage earners and half by employers. The possibility presents itself to cboose a similar approach in the other Eastern bloc countries. First developments point in this direction. As the making of profits is a stimulant to the market process, profits may not be condemned, as they used to be. They may, however, be subject to taxes, which should not be so high as to stifte the entrepreneurial spirit and the propensity to invest. The strong differentiation of the tax burden on different kinds of income, as was common in socialist states, should be abolished in favour of a synthetical income tax, where al1 income, independent from its sources, is subject to a general tax. Some exceptions, which may also be found m western industrialized countries, are permissible and may be justified. From the beginning, the second pillar of the lax system should consist of a sales tax, which focuses on added value or on private consumption, as the net sales lax in the EC-countries does. In this way the tax systems would harmonize with those in the EC, with whom most Eastern bloc countries will carry out a large part of their international trade in the future. Border balancing according to the destination principle is easily done with such a tax. Special excise taxes may supplement the general sales lax, but should be confined to a very few products.

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One of the main problems is connected with the financing of Social Security. First of all, a safeguard for times of unemployment by unemployment-insurance has tobe newly instituted in all socialist countries; the old system did not know open unemployment. Everybody who wanted to work bad to be employed, even if he could only add little or even nothing to production. Unemployment was concealed. Additionally, it has tobe decided up to which amount other Social Security or public welfare services should be granted and whether they should be funded by the generat budget (necessarily with higher taxes) or by own governmental institutions (Social Security trust funds) with own contributions. In this case only a pay-as-you-go system seems feasible, as the capital-fund system would over-burden the current population. A limited surplus of the Social Security trust fund could be benefical. It constitutes a form of forced saving of wage earners, which may be used to finance investments or a governmental budget deficit. The structure of the tax and revenue system is of great importance for achievement motivation and the propensity to invest in the private economy. A net sales tax of the consumption type, as is common in the EC, already includes a strong investment incentive, because investments are tax free. The bigger the share of indirect taxes and social security contributions, the less revenue has to be collected by income and profit taxes. Top marginal tax rates of 50 % or even more, coupled with strong progressivity, may be needed not only to secure enough revenue; the proponents of Socialism have always praised the Ievel income distribution of socialist economics. Its disadvantage, the almost complete destruction of achievement motivation, was mostly overlooked. It is one of the tasks of fiscal policy, to stress the point, that a market economy is coupled with a much stronger differentiation of incomes, but that taxation will correct this somewhat. Investment stimulation on the one band and distributionary goals on the other have to be harmonized. It is noteworthy, that low tax rates are not the only way, often not even the best one, to stimulate private investments. Special measures for investment promotion are mostly superior. Low tax rates in the upper income brackets favour all incomes, independent from whether these Iead to investments or not. Measures of investment promotion like favourable depreciation or an investment premium can only be utilized by those which actually invest. An investment premium is generally preferable. Favourable depreciation has the financial advantage that tax relief is temporary, because depreciation is only granted once for each item. Taxation then takes place in later years.

Public Finance and Transfonnation Process to Market Economies

37

The effects of these preferences depend on the marginal tax rate and therefore are especially favourable for those with already high profits. Investment premiums on the other band, support all investors with the same percentage, even if they don't yet make any profits or have only low profits. This will be the case with quite a few companies in the Eastern bloc countries, especially as medium and small size business often did not exist. Because investment premiums do not have to be paid back, they play an important role in equity formation. It therefore was correct, that the main focus of investment promotion in the new federal states in the FRG lay in such investment premiums. A time Iimit and degressive reduction during this period are supposed to quickly generate investments. These premiums are available to domestic investors as well as investors from the western part of Germany and from foreign countries.

As actual investments are relatively easy to check, there is no danger of western companies using low tax rates to evade taxation by shifting their profits from west to east. 2. Changes in the structure of public expenditure

Two types of expenditure, which dominate the governmental budget in socialist countries, loose much of their weight in a market economy: the state-owned) companies, and subsidies, especially fmancing of investments for staple foods, housing and public transport.

m(

In a market economy, tbe privately owned companies have to finance investments by themselves. This may be done througb earned depreciation, non-distributed profits, additional equity capital or by outside capital. The government may promote investments with the mentioned measures. There is no centrat governmental investment planning. The degree to which the financing of investments is influenced by other measures of fiscal policy will be looked at later. All socialist countries used a big part of the public budget to subsidize the prices of goods and services which satisfy basic needs. In the former GDR, for instance, this made up to 50 % of public spendin~. Sodalist ideology forbade that these prices should rise. Regardless of cost development they 2 Annual report 1990/91 of the economic advisory council, Jahresgutachten 1990/91 des Sachverständigenrates, Ziff.106.

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Alois Oberhauser

were held constant by rising subsidies. This was and is perceived as a social achievement. In reality, such subsidies are anything eise but social, and also a horrendaus burden on the public budget. High subsidies for staple foods, public transport and energy Iead to wastefuloess, misallocation of resources and deficiency symptoms coupled with allocation problems. In housing this manifests itself in a serious shortage with a depressing deterioration of building substance. When travelling in Eastern bloc countries, the desolate state of buildings and infrastructure is quite saddening. Such subsidies cannot at all be characterized as social-minded. Subsidies always have to be fmanced by additional burdens elsewhere. That is also true if they are fmanced by additional money. In this case price increases, or insufficient supplies and empty shelves constitute the burden. If it is deemed socially necessary to help certain groups of the population, then it costs much less to transfer the necessary income to those groups, than to subsidize the corresponding goods and services for the whole population. As not more than 10 to 20 % of the population is in need of subsidies, any measure going beyond that group is fmancially wasteful, and social misspending. In concrete terms this means that the largest part of goods and services subsidies should be abolished. This will Iift a considerable burden from the public budgets, even if some groups will receive income transfers instead. This transformationwill constitute a switch from object-orientated transfers to subject-orientated ones. If one takes a Iook at the weslern industrialized countries, however, then many examples of object-promotion will also be found there; public housing schemes are one example. The main emphasis of public expenditures may then be placed on other tasks. The extension and strengthening of the infrastructure should have frrst priority - not only because it is in a desolate shape, but above all because it is a precondition for a market-orientated growth process. The availability of infrastructure complements private investment. In the new federal states in Germany, many potential investors are shying away because of the infrastructural inadequacies. If we add up the other spheres where public money is also spent in weslern industrialized countries, then we have to ask how the remaining public expenditure should be adequately financed. Will the governments in the Eastern bloc countries be at all able to cope with these tasks? Apart from taxes and revenues, three aspects are of main interest: - Will the profits from the privatization of public enterprises be big enough to help significantly?

Public Finance and Transformation Process to Market Economies

39

- Is it possible to tap foreign (Western) sources? - Will domestic public debt yield considerable amounts? It shouldn't be necessary to mention, that fmancing by the emission of money is not feasible. Of all the Eastern bloc countries, only the former GDR is in a relatively fortunate position. The federal government of Germany takes care of all centrat government responsibilities. Public transfers in favour of tbe new federal states should amount to 120 billion DM in 1991. These transfers between th~ Western and the Eastern part of Germany amount to 40% of the national product of the former GDR. This is the reason why the population in the new federal states did not experience a reduction of real living-standards, despite the high unemployment and the strong reduction of own production. Quite to the contrary, almost all, even the unemployed, experienced an increase of real income, because wages were first switched over on a basis 1 : 1 and then were increased, with prices even declining slightly. On top of the public transfers, there are still the amounts which private investors and banks use to fmance investments in the new federal states. 3. Profits from the privatization of public wealth At first glance the governments in socialist states seem to be quite wealthy. They own most enterprises and a big part of all land. During socialist times, this wealth generally feil in public hands by expropriation and by net investments that were channelled from the running national product. The government not only owned all the equity capital, but was - via the public banks - also creditor of allloans to companies. It therefore in principle O\\ned the complete equity and borrowed capital in the economy. This public wealth only has to be netted against the savings of private households and net foreign debt. This difference amounts to the net wealth of the state. lt is correspondingly reduced, however, if former expropriations are repealed. This is, for instance, the case for most expropriation in the former GOR. If the transition to a market economy is earnestly aspired to, then most public enterprises and a large part of the land (including buildings) has tobe privatized. It does not have to be discussed here to what extent privatization is necessary and whether interim solutions are possible. The state also owns some part of production capital in western industrialized countries.

Alois Oberhauser

40

If the state does not want to give away its wealth (which will not be discussed here), privatization will yield receipts. These receipts will generally be used to fmance expenditures in the public budget. Will privatization revenues considerably lighten the burden on public fmances? Firstly, who could act as buyer of public wealth and what prices could be realized? Few domestic buyers will own enough capital. lf, as for instance in the former GOR, private savings aresmall compared to public wealth, or if savings are completely depleted by inflationary price increases, as for instance in Poland, then private persons will not own much capital. They may only act as buyers if they receive bank credits or if public wealth is sold very cheaply. The frrst case at least partially amounts to money and credit expansion, the second one will yield only small receipts for the state3 •

One possible solution depends on the state itself granting loans to prospective buyers. This would mean that privatization profits would only become available after prolonged periods. However the loans need not be interest free. This could be a solution especially for small and medium sized enterprises and for the privatization of housing. The economic goal of transition from public to private ownership is reached. These private economic agents which buy public wealth are forced to make high savings to repay their loans during the following years. By repayment they build up wealth. The public budget will only receive small amounts during the frrst years, but then interest and repayments for long periods. At least in this way several goals may be reached at the same time: public wealth is privatized, private wealth formation takes place, achievement motivation of the economic agents is increased and the state will probably receive more money from privatization than if it bad sold cash immediately at lower prices. Judging from the available information, such privatization measures are relatively rare in the former socialist countries. Instead quite problematic lease agreements and unbalanced fund-constructions are utilized4 • In many cases public wealth is unnecessarily squandered - squandered because the revenues that are possible in the medium term are be urgently needed to cope with the task of making the necessary infrastructure available.

3

Sinn, H.-W.: "Verteilen statt verkaufen", in: Wirtschaftswoche Nr. 5, 25.1.1991, pp.78-81.

• See Bolz, K. (Ed.): Die Wirtschaft der osteuropäischen Länder an der Wende zu den 90er Jahren, Hamburg 1990.

Public Finance and Transfonnation Process to Market Economies

41

4. Capital imports from foreign countries

The previous considerations about the privatization of public wealth cannot be applied to sales to foreigners or, as in Germany, to economic agents who do not belong to the same economic sphere. Such sales generate capital imports. With these it is possible to pay for imports of goods and services or to repay foreign debt. Generally higher prices may be fetched than by selling only to domestic buyers. These sales to foreigners generallyalso have additional effects. Foreigners supply equity capital for domestic enterprises without the government having to incur any debt. It is particularly hoped for that foreign companies, who are the most suitable as prospective buyers, will not only drive up the buying price, but will also see to the financing of new investments, which generates additional capital imports. Generally they also supply the much needed special know-how. Both increase domestic productivity and the international competitiveness of enterprises. This is the main beneficial effect of the sale of whole or even parts of former state-owned companies to foreigners. One should not focus on the sale of wealth as such, but rather on the aspect of economic dynamics, because in this way increased production, more employment and better international competitiveness may be reached. From this perspective it is not so important to really maximize sales profit. The increase of production is much more important. As the experiences in the former GDR have shown, waiting with privatization in hope of high er sales prices often does more harm than good5• The delays with the privatization of state-owned companies of the "Treuhandanstalt" (trustee office) in the former GDR, prevented many participation deals of western companies or at least postponed them. This resulted in a greater increase in unemployment. The companies in the former GDR were suddenly completely integrated in the European market and world markets, without any special protection from worldwide competition. An offensive strategy, with quick and intensive cooperation with western companies would have been far better. Special forms of cooperation, with the selling prices of privatized wealth being established later, could have been used. The government would probably have made bigger profits from

' Kloten, N.: "Transfonnation einer zentralverwalteten Wirtschaft in eine Marktwirtschaft. Die Erfahrungen mit der DDR" In: Deutsche Bundesbank: Auszüge aus Presseartikeln vom 4.1.1991, p.4.

42

Alois Oberhauser

its asset sales this way, because land and buildings of competitive companies are worth much more than those of companies on the brink of bankruptcy. The situation is somewhat different in the other Eastern bloc countries, because their enterprises are sheltered from international competition by custom barriers and exchange rate adjustments, and because domestic demand for domestically produced goods is still high. It is a big burden on domestic production in the former GDR, that the people do not want to buy own products anymore and rather choose western goods, even if these are a Iot more expensive. Apart from the mentioned capital imports we have to consider new public foreign debt. Capital imports may also be achieved in this way. Their economic effects depend on the usage of public borrowing. Public capital imports of socialist countries were formerly often used to fmance consumption goods imports, to at least partially ease existing goods shortages. This still plays a role during the current transition period. Such capital imports burden the future with the subsequent necessary interest payments and debt repayment, and thus constitute a heavy mortage. Poland, for instance, could only reverse an active balance of trade through a very rigorous economic policy. Foreign public debt to fmance other governmental tasks may temporary lessen the domestic burden, because corresponding taxation need not be imposed and goods and services may be imported. But interest and debt repayment still constitutes a future burden. On the other band, foreign debt of companies to finance investments will in most cases result in productivity increases and probably additional exports, thereby making the foreign debt service possible. With public foreign debt this result is improbable, even if only investments in infrastructure are financed. However quite a big part of new public foreign debt in Eastern bloc countries is used for a third purpose, namely interest payments on former foreign debt. In this case the stock of foreign debt of a country grows, without receiving any goods that could be used domestically. The absolute burden grows further. Only if production and thereby domestic tax receipts grow, then this burden will not be particularly serious; in the medium term, however, a corresponding goods transfer to the foreign countries must be possible. In conclusion, foreign public debt will certainly be problematic, if capital imports are not used to fmance investments in the production sector. The new federal states of Germany are an exception, because the central government and thereby the whole of Germany takes over these obligations.

Public Finance and Transformation Process to Market Economies

43

Additionally the huge surpluses in the balance of current accounts of Germany may be used as a buffer.

5. Domestic public debt

As foreign public debt should only be used very carefully to finance public expenditure, we have to consider whether the Eastem bloc countries could rather utilize domestic debt. As the necessary public investments in infrastructure will be above all advantageaus to future generations, this seems to be justified. This argument is countered by the fact, that the utilization of goods for investments in infrastructure takes place in the present. It is only possible to shift the real burden into the future, if private investments are reduced by crowding-out. A reduction of private investments is, however, the opposite to what is needed in the Eastern bloc countries at the moment. The goal should rather be, as has been mentioned, to increase these investments. Anything that could impede private investments must be avoided. Domestic public debt could be such an impediment. We have to acknowledge, that capital markets in the Eastem bloc countries are still in their beginnings. If the state absorbs a big part of the supply on these markets, then the danger of impeding investment possibilities of companies and in housing construction exists. This is, however, not necessarily so, because an increase in profits in the private sector can generate additional savings. The extreme increase in public debt in the Federal Republic of Germany, for instance, from 0 % of the national product in 1989 to 3 1/2% and more during 1990 and 1991, did not reduce private investments at all. Quite to the contrary, they virtually exploded. The necessary additional savings resulted from a stroog growth of national product aod thereby savings on the one band, and from a rise of the profit share against the wage share of the GNP on the other. Such adaptations of private savings, by means of income increases and changes in the income distribution (income and distribution mechanisms), to adjust to the sum of private net investment, public deficit and the balance of current accounts, play a significant role in reality. They are quantitatively far more important than the effects that result from changes of the interest rate (interest mechanism). This aspect is still very much neglected in economic theort.

44

Alois Oberhauser

We may not, however, assume that the other Eastern bloc countries, wbich are still in the midst of the transition process to a market economy, will experience such adaptation processes. There the government should rather go easy on capital markets, or even additionally promote private investments by tax fmancing its expenditures, including investment promotion measures. In this way the former Federal Republic of Germany considerably supported the economic upswing during the fifties and sixties, the so-called German "Wirtschaftswunder" (economic miracle). Such a government approach has the additional advantage that profits will not rise too strongly; this would take place if a high proportion of public expenditure is debt fmanced without private investments being reduced correspondingly. Summary

Public Finance faces big challenges in the countries of Eastern Europe. It should support the transformation process to market economies. It is decisive that the chances for rapid economic development by the adoption of technical knowledge are utilized. This requires a tax policy which focuses on investment promotion, but does not neglect the distributionary aspects. Subsidies should be abolished as far as possible and the main weight of public expenditure should be rested on infrastructure investments. Revenues from privatization and public debt cannot achieve very much. Public expenditure financing should rely on taxes and Social Security contributions drawn from the current national product.

6 Oberhauser, .A.: •Änderungen in der Einkommensverteilung und Zinsbildung. Eine notwendige Ergänzung der Zinstheorie.• In: File, W./Habl, L./Pohl, R. (Ed.): Herausforderungen der Wirtschaftspolitik, Berlin 1988, pp.98-111.

The Franco-German Way Towards an European System of Central Banks Hans-Hermann Francke

1. Introduction About two years ago, when the pro's and con's of a European currency union headed by a single Central Bank were heavily discussed, it was by no means clear that something comparable would ever exist. The many economic objections and political reservations seemed too important to really believe in the seriousness of a plan for such a decisive step towards European unification. In the mean time most decision-makers and also the public think that only a short span of time will be needed until a European Central Bank will take over important responsibilities of former EC national banks. Only the schedule of the delegation of monetary power to the new European institution, its residence and- more important - its constitution and monetary conception are still debated. The fact that this process has accelerated so rapidly, is often related to the seemingly unbelievable speed of the German reunification which also as a kind of a precondition - pushed for European integration. However, as suitable as this explanation of the recent past might appear, one should not forget the long-term basis for the successful foundation of a European Central Bank, namely France's and Germany's political consensus that has evolved a long way during a commonly difficult 15 years. In the second volume of bis memoirs, the former chancellor Helmut Schmidt outlined the development of the European Monetary System and plans for a European Central Bank. From an economic standpoint, I can only share his optimistic plea for monetary integration with scepsis, but I agree without reservation when he states for the EMS: "Without common leadership by the French president and the German chancellor nothing could have been achieved. Today, it is obvious that the perfection of the EMS can only be completed, if both, Bonn and Paris, want it". 1

Hans-Hennann Francke

46

In the following, the Franco-German way towards a European Central Bank will be examined once again. For a better understanding of its policy implications, some important features of exchange rate systems will be presented in order to develop some criteria for the assessment of those economic problems that France and Germany has bad to resolve in the past. These criteria will help to explain the phases of the EMS' past development that led to the most recent plans for a European Central Bank. Finally, I will discuss some vital problems related to the construction of the European system of Central Banks, which are mainly determined by divergent Franco-German interests. 2. Criteria for exchange rate systems

2.1. Fixed versus flexible exchange rates 1.) Comparing real-life exchange rate systems of present and past two basic alternatives are thinkable: ftxed exchange rates versus flexible ones. Both have been realized in many ways, especially in respect to various institutional control mechanisms. However to understand the main differences, it seems useful not to Iook at the real-life phenotype but to compare both systems in an abstract way in order to focus on policy implications and monetary transmission. Generally, it is said that two currency areas (countries) are linked by ftxed exchange rates if the responsible institulians agree on maintaining a stable nominal parity. This agreement is enforced by the promise of cooperation, contractual relations, or by the integration (or mergers) of Central Banks. The tasks and duties of Central Banks are closely related to the strictness of these institulianal agreements. As a rule, these tasks comprise adequate monetary measures - namely interventions in the exchange market - to defend the parity against market forces or conflicting internal policies. National economic policy is subordinated to international restrictions in order to keep the exchange rate at its desired Ievel. Thus, economic policy is deprived of its autonomy and subjected to an exterior force. If, for example, inflation is imported via ftxed exchange rates the lost autonomy

1

p.43

Schmidt, H. (1990), Am Sankt-Nimmerleinstag?, in: Die Zeit, No.37, 7. September 1990,

European System of Central Banks

47

proves to be a disadvantage. But it also might be useful if international obligations help to create greater discipline and thereby monetary stability than would otherwise be feasible. These limitations and risks of domestic economic policy are countered by some advantages within the private sector of a single currency area: since future exchange rates are known, there are no foreign exchange risks and hence no costs for hedging or insurance. Moreover, currency payments in international trade and services are easier to handle. To put it briefly: fiXed rates reduce information and transaction costs. The alternative solution is a system of flexible exchange rates that is based on autonomaus national decisions rather than on international agreements between monetary authorities. Central Banks simply leave the exchange rate to market forces, they do not intervene to fiX the parity. The exchange rate floats over time and adjusts to the effects of national and international economic policy as well as to speculation. In a system of flexible exchange rates there is no contractual obligation for domestic policy to cooperate on an international Ievel. A floating exchange rate also absorbs the irnport of inflationary pressure to a certain degree. On the contrary, since domestic economic policy is able to tackle the exchange rate as an additional goal, there is a new policy instrument available. But this instrument is not for free. It has to be paid for by the private sector and its increased information and transaction costs in international trade in g9ods and services. An unknown future exchange rate creates the need for expensive bedging and insurance techniques. 2.) Hence, both exchangerate systems show various pro's and con's for the participating nations. In order to compare them and to choose the right system at the right time, additional criteria are needed. Three criteria examining the efficiency of the system deserve a closer Iook: - First, in the face of the economic and political situation in both nations, to examine whether the chosen system provides a high degree of monetary stability. - Second, one is to assess the system's ability related to other currency systems or blocks; that is, to evaluate the system's shock resistance against speculative attacks from outside and its inherent stabilitf. - Third, one has to estimate and predict the participating nations' political ability to cooperate. The nation's current political situation as well as the

2 cf. Bojinger, P. (1990), Alternative Verfahren der geldpolitischen Koordination in Europa, in: Bojinger, P. (ed.): Der Weg zur Wirtschafts- und Währungsunion, Wiesbaden 1990, p.45

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Hans-Hermann Francke

mutual willingness to maintain "good" relations mainly determine this ability. The frrst argument favors fvced exchange rates as long as its contractual provisions guarantee the domination of the most stable currencies withing the system. If, a priori, one currency was made prevalent by contract, it ought to be a comparatively stable one. Should these conditions not be fulfilled or be damaged over time, it would be more useful to switch to a system of flexible exchange rates3• The second argument is closely connected to the economic size of the nations' currency area. In a fvced rate system, the bigger the share of international trade among the participating countries, the less detrimental are exchange rate fluctuations of outsider countries. Conversely, countries with little international trade should prefer flexible exchange rates because they are better protected from unstable surroundings. In addition to these more economic arguments, a fvced rate system can only prevail if there is a willingness to cooperate. According to the New Institutional Economics, rules of a fvced rate system are to be viewed within the framework of the "Relational Contract"; these are long-term relationships relying on confident cooperation between the contractors. Also, game theory models show that the common utility function can be maximized if opportunist behavior is avoided. Without loyal and credible partners a fvced rate system can not possibly survive; then, a system with flexible exchange rates would be preferable. 2.2. A classification of exchange rate systems

1.) Allpastor present exchangerate systems so far have been hybrids of the pure types described above. The relevant cause for the evolution of those hybrids can be explained by history and the changing economic and political preconditions of participating nations. Thus, according to the abovementioned criteria, the merits of fvced or flexible exchange rate systems are considered differently over time. To understand mixed types of exchange rate systems, it is convenient to systematize according to "exchange rate flexibility" and "monetary authority" (see table 1). With respect to flexibility, one can distinguish fvced exchange

' In this context, the collapse of the Bretton Woodssystem can be largely explained by the growing inflation of the Dollar during the 60's and 70's.

~

r

~

e;

;::

41

FLEXIBLE absolutely

21

31

Margin

11

Delors II

Delors 111

42

32

22

12

system with binding rules

Delors I

43 system of binding rules

33 target zones

23 EMS Bratton Woods

no contract

44 class. flex. rate system

34 dirty floating

24 flexible unilateral system

14 strictly unilateral system

MARKET FORCES

13 classical fixed rate system

contractual relations

Coordinating Institution

AUTHORITIES coordinated integrated

controlled

FIXED

absolutely

Exchange Rate

Table 1: Exchange Rate Systems

Ir

~

[

g, Q ::s

3

i

::s

i

~

50

Hans-Hennann Francke

rat es (absolutely flXed versus target zone) and flexible ones (again absolutely flexible versus "dirty floating"). System coordination is provided by market forces or authorities4 • Market forces are either perfectly uncontrolled or form a reaction to Centrat Banks' concerted efforts within their contractual agreements. The implemented coordination mechanisms between monetary authorities largely determine exchange rate developments. This mechanism works either through the concerted actions of Centrat Banks or through the fusion of the monetary authorities: a common Centrat Bank. From these arguments, one can develop a matrix outlining all possible combinations of different exchange rate systems. 2.) In table 1, cell13 describes the mentioned system with flXed exchange rates, cell 44 the system with flexible ones. The European Monetary System (EMS) is in cell 23. Its special feature is the member nations' contractual obligation to keep the parity within a certain margin. However, a realignment is possible if it becomes too difficult to keep the fluctuations within the desired range. In this case, a common unanimous agreement is needed. A System of European Centrat Banks (ESCB) would be distinguished by a common currency and the ongoing integration of the participating Central Banks. A common currency can be looked at as an extreme version of a flXed rate system, so the planned ESCB can be found in cell 11. Thus, the Franco-German way to a European Centrat Bank is classified as the gradual alteration of a common exchange rate system. After the collapse of the Bretton Woods global system (also cell 23) in the early 70's the so-called "Snake", with comparatively liberal contractual rules evolved (between cell 23 and 24). According to the Delors-Pian5, the emergence of the EMS is scheduled as a gradual change from a flXed rate system (cells 22 and 21) to a European system of Centrat Banks (cell 11). This classification of the ongoing development from the European Monetary System to a European System of Centrat Banks reveals primarily that a reduction of exchange rate flexibility is tied to a change in the coordinating institution. Market forces will be replaced by integrated authority actions. Simultaneously, the political creativeness of the participating countries and nations is changed in an ambiguous way. A reduction of exchange rate flexibility generates economic discipline and diminishes sovereignty for national policy. Also, the switch from "market" as

• Fora distinction between market forces and authorities, cf. Bofinger, P. (1990), p.46 s Bericht zur Wirtschafts- und Währungsunion in der Europäischen Gemeinschaft, 12. April 1989, published in: Europa-Archiv, 10/89, S.D 283-304

European System of Centrat Danks

51

a coordinating mechanism to "authorities" implies a change from private decisions to supra-national government regulation. Except for these criteria of economic efficiency that serve to evaluate the advantageousness of exchange rate systems there is also a political category that distinguishes the private freedom of action from government regulation. In order to understand the history of the EMS outlined below, both categories are of importance. 3. The performance of Franco-German interest structures in tbe EMS 3. 1. History and foundation

1) Most likely, Helmut Schmidt was right when he stated that the EMS could not possibly have been founded without the French president and the German chancellor. According to the analytical framework developed above, at least two reasons for this can be found. Firstly, at the end of the 70's neither on the German nor on the French side were there the economic preconditions which would approve a new flXed rate system without reservation. Secondly, in Germany as weil as in France, political instabilities evolved and prevented a generat consensus in both countries. Hence, the utmost personal perseverence of Giscard and Schmidt was needed to establish the EMS. Critical reservations against the foundation of the EMS were not only based on two fruitless efforts to establish a working European monetary union (namely the proposals of the EC commission of 1961 and the EC Council Act of 1971/72, Den Haag/Werner Plan)6 but also on negative experiences with the "Snake" in the 70's. This European exchange rate system was founded in April 1972 as an institution of the Central Banks of Belgium, Luxemburg, Germany, France, Italy, and the Netherlands. On a European Ievel, it was designed to replace the disintegrating Bretton Woodssystem that fmally broke down in 1973. But the European "Snake" was also struck with bad luck. The nurober of its members was changing frequently and several realignments of the parities were needed. Especially France struggled to achieve the economic discipline imposed by the flXed rate system. In the context of the frrst oil crisis, which

• Bericht an Rat und Kommission über die stufenweise Verwirklichung der Wirtschafts- und Währungsunion in der Gemeinschaft, Bulletin der Europäischen Gemeinschaften, Beilage

11/1970

52

Hans-Hermann Francke

led the Bundesbank to restrictive measures but the Banque National to expansively adapt to the shock, France left the "Snake" for the first time. Mter a short second attempt, France quit the exchange rate system a second time. In 1979, when the EMS came into existence, a Franco-German exchange rate system didn't exist anymore and cooperation between France and Germany was on a historicallow. At the same time, the second oil crisis bad offset serious efforts to fight unemployment and slow growth of the 70's. To tackle unemployment and growth, however, quite different strategies were pursued. In order to understand these, an analysis with the help of economic and overall political categories is useful. 2.) Mter the Bretton Woods collapse and the first oil crisis, Germany's Bundesbank adopted a new monetary strategy. Startingin 1974, instead of the former interest rate oriented control of liquidity reserves, a strict monetary rule was introduced aiming at the pre-announced growth of the "Central Bank money supply''. To describe this change in monetary strategy, mainly designed by the Bundesbank's vice-president Helmut Schlesinger, as a shift towards monetarism may sound exaggerated. But it definitely reflects the refusal of most scientific economists to stick to the formerly prevalent Keynesian paradigm of anti-cyclical policy. Instead, the notion gained ground that unemployrnent cannot be permanently reduced by inflating the money supply and that for a successful fight against inflation, strict control over monetary growth is indispensable. The Bundesbank's new monetary concept could be consequently implemented since the obligation to maintain a stable Deutschmark/Dollar parity was obsolete. Soon, Germany's inflation rate sunk but unemployment could not be reduced. As a consequence, the Bundesbank was brought in Opposition to the administration, especially to Helmut Schmidt and the SPD. Schmidt was in favor of Keynesian demand management which was then counteracted by the Bundesbank's restrictive policy. Since the rigid monetary policy also caused frictions within the "Snake" - the Deutschmark appreciated a couple of times and the French Franc left the system twice Fra:~co-German relations were troubled. In France, however, not only a different conception of economic policy prevailed, but also different structures in respect to power and economic order. In cantrast to the autonomaus Bundesbank that is independent of government's decisions to a high degree, the Banque de France de facto was (and is) directly subject to the French government. It's president can be removed from office anytime and the Banque can be used by the government to finance its debt. Therefore, the Banque de France could not but

European System of Central Banks

53

accomodate the French government's expansive monetary policy in the 70's. The French Franc inflated substantially and continously depreciated against the Deutschmark. Against this background, the different Franco-German interests during the founding of the EMS become apparent. Germany joined the EMS because of tbe Schmidt Administration boping to reduce the Bundesbank's "dictatorship" and to improve its relations with France. Better relations with France were a first step towards a European unification tbat was aimed at efficient protection from exogenous sbocks caused by tbe volatile Dollar. Only tbis last aspect was accepted by tbe Bundesbank and tbe majority of economists. Except for tbat, joining tbe EMS was largely connoted negative expectations. As, for example, Vaubel put it in 1979: "As long as it will be maintained, the new European excbange rate system will not yield stability in parilies but inflation and economic disintegration. lts collapse will discredit - anew and more seriously - tbe goal of political union in Europe"7 • Conversely, France joined tbe EMS since - on tbe one band - it needed help to recover tbe internal and external stability of the Franc. On tbe otber band, it was believed tbat tbe Bundesbank's obligation to keep tbe weak Franc at tbe parity, would destroy tbe dominant role of tbe Deutschmark as a new world reserve currency. Tbereby, France was aiming to regain political leadership in tbe process of European unification. Tbat - from a Frencb viewpoint - political leadership is based on the maintenance of a strong currency and national sovereignty can be illustrated by a quotation from M. Michel Debre dating back to 1971: "Tbe very feature of Gaullism is tbe permanent anxiety about tbe degree of France's independence.... France, certainly, will be subjected to commitments, but commitments after its own standard, in harmony witb its own will. ... Tbe anxiety about a national currency appreciated at home and abroad is part of tbe Gaullistic beritage. Tbe currency, in tbe first place, is a feature of a political authority. Who bas got tbe taxes, tbe savings and tbe credit, bas got tbe power. Tberefore, tbe term European currency is ambigous. To put it clearly, tbis would mean tbat Europe bas become a nation and tbat everytbing is over. Tbis is not our way. We, in contrast, are for concerted actions and cooperation in order to avoid excessive fluctuations in exchange rates"8 •

7 Vaubel, R. (1979), Choice in European Monetary Union, The Institute of Economic Affairs, Occasional Papers, No55, Lancing 1979, p.17 1 Debre, M. (1971), quoted from RH. Hasse, Die Europäische Zentralbank: Perspektiven für eine Weiterentwicklung des Europäischen Währungssystems, Gütersloh, 1989, p.60

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3.2. The EMS' unexpected development

1.) However, after the foundation of the EMS everything went not only differently from what the pessimists feared and the optimists hoped, but also the development did not reflect the formerly prevalent political interests in Germany and France. Until1986, the EMS performedas a fvced rate system that was very weil able to exert stabilizing and disciplinary pressure on its member countries and simultaneously absorb shocks from unstable surroundings. Pessimistic prognoses that warned that the EMS was an unstable inflationary community were proven wrong. But, at the same time, a growing dominance of the Deutschmark, respectively the Bundesbank, evolved, so that the EMS gradually became a "German Monetary System". French hopes to regain political power via the EMS were disappointed. That the EMS turned out to be a community of stability rather than inflation has two causes. On the one band, rules of intervention to stabilize the parity led to strong disciplinary pressure since interventions in the foreign exchange market could not be done with domestic, but only with hard foreign currency. On the other band, hard currency countries were able to sterilize the liquidity effects of their interventions in favor of weak currency countries. Thanks to largely successful compensating measures there was no loss of stability. The constantly ernerging DM as the de facto intervention currency of the EMS became the often-quoted "anchor" of the ftxed rate system. This included the fact that weak currencies - especially the French Franc and the Italian Lira - depreciated repeatedly during the f1rst years. Although designed as a fvced rate system the EMS performed with sufficient flexibility to compensate for big disparities in the purchasing power of the member currencies via realignments. The satisfaction of German economists and the Bundesbank with the unexpected success of the EMS with respect to stability was countered by growing scepticism on the French side. However, the failure of socialist employment policy until 1982 was accepted as inevitable. On the other band the Bundesbank's increasing power over the French economic policy soon appeared to be unbearable. Even economic analyses that deduced a useful growth in the credibility of the French Central Bank because of the import of stability could compensate for that. However in the mean time, the socialist Mitterand Administration appreciated the advantages of monetary discipline, but as long as frequent depreciatons of the Franc made it obvious to the public that - in matters of stability - there still remained a Iot to be learnt from Germany, the EMS seemed like a chain on French sovereignty. Since leaving the EMS - also in the face of the volatile Dollar - was out of

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the question, the French exchange rate policy was changed in three respects: a strict policy against inflation, the circumvention of intervention rules, and a change in the EMS' contractual framework. 2.) Hence, the EMS proceeded to a second phase that was struck with crises implying its end. That, at the same time, this end would be the beginning of a European System of Central Banks does not - from my point of view - mean that an ESCB must necessarily be the logical upgrade of the EMS. On the contrary, the EMS was, with respect to economic efficiency, very weil able to survive. And a European System of Central Banks with a "Euro-Fed" at its top remains a very risky project in a Iot of ways. From that standpoint, the ESCB could evolve where the EMS bad failed. This failure can be looked at as a textbook example of the "New Institutional Economics" which explains institutional change partly by opportunistic behavior of relational contractors that discredite the institution. While the French reproached the Bundesbank for its exaggerated restrictive policy (whether justly or not does not matter, since the French feit that way), they also placed more emphasis on so-called "intra-marginal" interventions to support the Franc. So did the Italian Central Bank with the Lira. The necessary currency reserves, Deutschmarks and Dollars, were always acquired when the Deutschmark/Dollar market was quite turbulent and the Bundesbank attempted to halt the sliding Dollar. Simultaneously, the weak currency countries guided by France pushed towards a revision of EMS rules in order to enlargen short-term credit facilities for interventions. The countries succeeded with the Basle/Nyborg Agreement in the autumn of 1987. Thereby, it was made difficult for hard currency countries to sterilize the liquidity effects of their interventions in favor of the weak currency countries. France achieved an important alteration of the EMS contracts. At the same time, a strict money supply policy prohibited further realignments. The EMS bad lost its de facto flexibility. The facetious term "IMS" meaning "iron monetary system" illustrates this point. According to many economists and the German Bundesbank, this was a very undesirable development since it directly counteracted strong beliefs in stability. The system that surprised Germany in its frrst years with an unexpected performance, now seemed to fulfill the negative prophecies made at its foundation. But this was not enough. Except for changes in the inner constitution of the EMS, there was an even more fundamental attack from the outside: namely, the more and more defmite plans for the foundation of a European System of Central Banks headed by one European Central Bank.

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4. Plans and problems with respect to the foundation of a European Central Bank 4.1. The De/ors-Plan and its background

1.) To avoid misconceptions it has to be stated that plans implement a European exchange rate system headed by one Central Bank existed long before the crisis of the EMS. Again, above all politicians believed that European integration is only feasible via a single monetary authority controlling a pan-European currency. Economists usually rejected this notion with the argument that monetary integration should follow mutual adjustments of economic structures and policy. However, after the crisis of the EMS and tagether with some progress in the field of deregulation in the Common Market, politicians finally succeeded in proclaiming an economic and currency union as a goal of European unification. Above all, France pushed in tbat direction. At a Hannover meeting in June 1988, tbe European Council authorized an expert panel headed by Jacques Delors, president of the EC-Commission, "to evaluate and suggest concrete steps to put this union into reality."

Economists, representatives of European Central Banks and other monetary institutions belonged to this expert panel. Chairman Delors, for lang, has been a prominent spokesman of monetary integration. His pronounced actions in office substantially promoted the development of the EC. Wben be took up bis office at tbe top of the EC French hopes were not disappointed. The basic task of the panel was to pass a report, respectively a plan, that balanced divergent Franco-German interest structures and conceptions. On the one band, with the Delors-Plan France hoped toset out facts and preconditions that made it impossible for Germany to refuse to consent to a European system of Centrat Banks. On the other band, Germany - represented in the expert panel by the president of the Bundesbank, Pöhl, - was eager to preserve essential features of the Bundesbank Law as a framework for the constitution of a European Central Bank. Following the German concept France arrived at its most important goal: German consent to a European system of Centrat Banks. 2.) The Delors-Plan was presented in April1989. Two issues arevital for the foundation of a European currency union. First, the Plan lines out the main features of the currency union ending the process of integration. Second, the road to fmally get there is subdivided in three time phases. The surprisingly manifold consent that the Delors-Plan also enjoyed in Germany was mainly due to the Plan's basic principles regarding the ESCB. According to those, the late ESCB is planned to be

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obliged to monetary stability as a primary goal unable to give credit to public authorities a federal system provided with a governors' council that is independent from directives of national governments and other common entities.

These basic principles correspond with those of the Bundesbank Law, so German criticism was hardly imaginable. Only the proposed three steps towards the new system can be disputed. The frrst phase, having already started on 1st July 1990, includes the perfect liberalization of EC capital movements and a closer coordination of monetary and economic policy by the committee of EC Central Bank governors. During the second phase, recently scheduled to start in 1994, a European System of Central Banks will become institutional reality in order to permit the gradual elaboration and implementation of a common monetary policy. This process already implies a far-reaching transfer of national sovereignty to a European Central Bank. The third phase will be launched with an irrevocable foong of EC exchange rates respectively the introduction of an unitary European currency. However it has not yet been decided when this third phase is supposed to start. In the light of the foggy task description of the second phase, it is very possible - as some politicians believe - that the third phase will start soon after the introduction of the second one.

4.2. Unresolved questions 1.) Hence, are we close to the end of the Franco-German way to a European Central Bank since all important problems have been sufficiently resolved? A clear "yes" would neglect the ample space for further interpretation that is left by the principles for a European constitution of a Central Bank stated in the Delors-Report. This applies for the mentioned stability goal as weil as for the prohibition of Central Bank credits to governments and for the shaping and justification of the decision-making entities' autonomy. The commitment to the goal of stability is, however, an important precondition for a policy aimed at inflation. But it is by no means sufficient to actually guarantee the implementation of such a policy. One should not forget that because of substantial disparities, the political difficulties to accomplish a stability-oriented policy in the EC will be much greater than in economically comparatively homogenous Germany. Therefore, it should be examined whether adequate and binding rules for a European Central Bank's monetary actions should be introduced. Complementary, material incentives

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for members of decision-making and administrative entities could be implemented in such a way that they will participate in the stabilizing success of their policy. Prohibiting the giving of credit to member nations will require supplementary rules, since this form of government fmancing is currently very important for many countries. Increased coordination of economic policy is required to change this. The Delors-Report therefore, intends to band over far-reaching powers to the EC Commission. But it seems impossible that the national governments will accept such a loss in competency. In this respect believing that the problern of inflationary government fmancing will be solved by merely prohibiting Centrat Bank credits to member nations seems too easy. Moreover, according to our understanding of political independence it is highly doubtful whether the autonomy of a European Centrat Bank can be guaranteed. Even the autonomy of the German Bundesbank is written in law without constitutional status. A simple parlamentarian majority would suffice to abolish the law. On a European Ievel, the question of autonomy is difficult to resolve for at least two reasons. First, the problern of legitimacy becomes more serious since the most important European institution for economic policy will act without democratic control. Second, it is hardly imaginable that the world's most powerful Centrat Bank will be able to make decisions without the consideration and consultation of foreign interests. 2.) Resolving a11 these problems still requires a Iot of effort. Whether they will be fruitful will largely depend on the Franco-German willingness to consent and to compromise. This cannot be solely achieved by tbe common will of senior politicians. Rather, comprehensive knowledge and the respect of mutual interests, which are ultimately founded in cultural differences, are required.

Managerial Deficits and Solutions in the New Enterprises of East Germany as Consequences of Transition from a Planned Economy to a Market Economy Hans-Josef Brink

1. The unilication of Germany as an economic and social challenge or the new decade

The economy of the Federal Republic of Germany faces great challenges at the beginning of the new decade. These challenges are related to the following topics, or to be precise, problems: (1) The European Integration starting January 1, 1993. (2) The integration of the former German Democratic Republic into the Federal Republic of Germany according to article 23 of the West German Constitution ("Grundgesetz") and according to the unification treaty. (3) The economic developments in the east European countries, especially the COMECON countries. These problern fields have not only an economic dimension as well as political and social ones. Dependencies and interdependencies Iead to complex structures, and political and economic decision makers therefore face tasks and responsibilities never known before. In accordance with the subject of this conference, this report examines the integration of the former German Democratic Republic into the Federal Republic of Germany (Fig. 1), with emphasis on business administration aspects. In particular the central management problems in the newly rebuilt enterprises in the states of the former GDR will be considered. This paper is divided into five parts. In the first part I will briefly characterize the basic principles which determined the economic structure in the former GDR. This provides the historical background essential to

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understanding and interpreting the current situation in the new federal states. This framework will be ftlled out in the succeeding sections with specific problems. The reference year will be mostly 1988, because this year was the last one to be broadly characterized by political and economic stability in the former GDR. Central to part two is the concentration on property rights and enterprise structures in the newly rebuilt businesses. The plants in the former GDR were integrated into a strict and rigid centralized system of governmental directing, planning and budgeting. With the abrupt transformation of the planned economy into a market economy, it is necessary to create new companies from the former economic units of the GDR. These newly formed enterprises must be equipped with new management and new management instruments. The third part deals with selected management instruments. I will consider the problern of implementing controlling systems for the new enterprises. In particularl the strategic aspects of controlling are centrat to this problem. The second main focus covers questions of the opening balance in Deutsche Marks. A DM opening balance was required for the newly formed stock corporations in the states of the former GDR by July 1, 1990. This balance is more or less an original balance. It reflects, in a very compressed form, the complexity and riskiness of the current transition period. The fourth part discusses the crucial strategic success factor: human capital. The successful integration of enterprises from the new federal states is more or less dependent upon adapting personal resources towards market demands. Most problems in this context have not only economic, but also social and political dimensions. The last part sketches the prospects of development, whereby the time aspect will receive particular emphasis. Current discussion shows that the transition from a command to a market economy and its related adjustment processes are indeed being considered with regard to contents; however the time needed for action and reaction is being neglected. 2. Structural features of the former GDR's planned economy as a framework for new enterprises in east Germany The planned economy system of the GDR is mainly based an five principles: (1) Dominance of public property and the combine principle.

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(2) Primary orientation of the ecocnomy towards material supply goals, in combination with almost total neglection of world market prices. (3) State monopoly on foreign trade and foreign currency with a high export dependency on socialist countries. (4) Oirective, centrat government planning with low autonomy of the single economic units. (5) Job guarantee. The structure of the GOR economy was the result of rigid application of these sacrosanct political principals. They determined the structure of the economy as a whole as well as the structure of the single economic units. The following facts explain exemplarily the results of these principles: (1) A low division of Iabor in the national economy and strong centralization in the form of the combine principle. (2) A high degree of vertical integration and, simultaneously, comparatively small plants in the single combine. (3) Low incentives for rationalization and innovation. (4) Low Iabor productivity compared to international standards. 3. Ownersbip and corporate structure of property in the new companies as a task for business administration

Part three examines structures of property and companies which were significant at the crossroads of the command and the market economy. Regarding corporate structures I will consider the following characteristics in particular: (1) property rights (2) company size (3) vertical range of manufacturing (4) competitive situation (5) organizational chart (6) innovative potential. Essential for the transition from a planned to a market economy is the question of property rights conceming production facilities. The 'Statistical Yearbook' of the former German Oemocratic Republic shows a share of 96.4% of net national product for the "socialized enterprises" in 1988, which was more or less constant in the preceding years. State-owned companies accounted for 88%, cooperatives for 8.4%. The state bad a dominant position within the former GOR economy, in which only 3.6% of the plants were privately owned. More close analysis of the different branches of business slightly alters the picture. Particularly in the industrial sector the share of the

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"socialized enterprises" was very high (97.6%). The share of cooperative orientated plants was only 3% of industrial output. However, a competitive market is not only related to property rights. The Ievel of concentration and the centralization of production and trade are also significant aspects. The most obvious characteristic of the public sector of the GDR industry was the combine principle. Combines were regarded as the "mainstay of the national economy". They were thought of as "socio-economic organisms" and were formed gradually by mergers between 1966 and 1982. The formation of the frrst combines were primarily the result of technological considerations. In the following years economic objectives would change several times, but the government steadily tried to form very large economic units. The combines became increasingly important as tools of central government and its economic policies. Narrow markets and the primacy of the performance quotas led to highly autarkic combines, being states within the state. This also explains the extraordinarily high degree of vertical integration within the combines, a principle which is not customary in the industrialized countries of Western Europe, Japan or the United States. Additionally, combines were characterized by extensive social facilities and supporting plants. In forming the combines plants throughout the GDR were merged, which led to many plants being below international average size. Thus it can be concluded that economies of scale could not be used effectively. This is a main reason for the Iack of competitiveness of these economic units today. To summarize, the combine principle was characterized by an obvious dominance of public property, a high Ievel of concentration and a centralization for all plants Ievels. Combines consisted of a differing nurober of businesses, which were legally independent and used their own frrm name. In economic terms, however, they bad very little autonomy from the government. Examination of the organizational structure of the GDR shows that the 129 combines were integrated into a strict and rigid system of central governmental directing, planning and budgeting. Guidelines covered internal and external sectors. Topmanagement were limited by administrative targets concerning production, investment, allocation of material options, etc.. Another important aspect is the competitive situation of the GDR combines on the domestic market and abroad. Within the GDR this "competition" was dominated by the public industrial combines or their

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businesses, respectively. They were often exclusive suppliers of specific goods, product categories or services. Only under special circumstances were comparable goods and services offered by other combines and their businesses. Monopolistic and oligopolistic structures dominated distribution. On the procurement side, purchasing departments bad practically no cboices of suppliers. In summary, only limited forms of competition existed between different combines as weil as between different businesses of one single combine. However some competition existed for capital investment funds and for shares in public balance sheets. To increase their shares, combines and plants were not afraid to exaggerate investment effects. Scarcity was characteristic in many markets. There were no competitive challenges for the domestic industry because of tbe government's strict regulation and control of goods' exports and imports. This bad very negative impacts on the innovative capacity of tbe economy. According to GATT statistics for 1989 tbe GDR was among the countries most lacking in economic dynamism, witb its export growth 50% below world average. Thus tbe GDR was ranked 23rd among tbe 25 most important industrial countries in terms of exports and 22nd in terms of imports. One of tbe reasons is the considerably low Ievel of innovation in tbe GDR industry. Export statistics directly proves tbis innovation deficit. Between 1985 and 1988 total export revenues from new products increased from 30.4 billion to 39.4 billion marks. However, in tbe same period export revenues from new products in tbe non-socialist currency area dropped from 6.4 to 4.9 billion marks. From the foundation of the GOR, tbe government monopoly of foreign trade and currency were untouchable principles. Tbe major formal goal was to safeguard optimal economic development. This was, to a certain extent, understandable during the initial stages of the GDR. However, it led to the tendency of the national economy to cordon itself off. Overall, tbe central organization of foreign trade bandicapped economic growtb. One main reason was tbe rigid use of tbe foreign trade monopoly, which disabled economic mechanisms. The becomes visible in the foreign trade structure. In 1988, 69% of the GDR foreign trade was with the socialist countries, especially the COMECON states (66%) (Fig. 2). Consequently, the GDR was unavoidably linked to the structure and the development of the COMECON. Within the COMECON, the Ievel of international division of Iabor was very low. Foreign trade between the GDR and the USSR was dominated by tbe exchange of manufactured products for raw materials and manufactured products.

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A good example for the current implications of the GDR's economic dependency on the COMECON is the "Deutsche Maschinenbau- und Schiffbau AG (DMS), Rostock. This mechanical engineering and ship-building company has emerged from a combine of 24 dockyards and manufacturing subsidiaries. At the beginning of 1991 the shipbuilding sector had unfilled orders totalling 3.5 billion DM (80% of these for the Soviel market). Through critical assessment the management recognized that these unfilled orders faced anticipated Iosses of 1.8 billion DM. Theseorders were accepted before the German unification and are a great burden on the new enterprises. In addition, this example shows that pricing policies were often politically orientated. In 1991 when the COMECON trade was switched to freely convertible currencies, the newly formed companies were confronted with the total pernicious extent of this enormous dependency on the COMECON. As a result the trade between the COMECON countries threatens to dry up. Thus the turnover ofEastern German companies with COMECON countries- and especially with the USSR - has suddenly dropped. This is one of the major reasons for the economic difficulties of the new federal states. All sozialized enterprises were formally based on West German Commercial Law as from 1st July 1990. These measures covered all combines adding up to about 8.000 plants or business premises. The legal form of the new enterprises was either a private limited company or a stock company. The capital shares which were previously nationally owned are now administered and sold by the "Treuhand-Anstalt" and its holding companies. These elementary features of the economic units of the former GDR constitute the framework of necessary decisions to be made by both owners and potential buyers. The new ownership and corporate structures face the following challenges: denationalization and decentralization, capitalization and privatization. The above mentioned features of the combines, especially the high degree of vertical integration and the existence of auxiliary plants or subsidiary branches, raise the question for new management to what extent the conventional corporate structures can continue to exist under market economy conditions. The managerially orientated breaking-up of the old combines and the formation of new enterprises through reclassification or reorganization is a centrat problem. This includes the question as to whether these enterprises should continue at all. A good year ago one often encountered the ratio 30/30/40, meaning that 30% of the plants could exist in a market economy, 30% might get into it with some support and the remaining 40% would not

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be able to survive the transition to a market economy. It should be made clear that virtually the whole plant is put to test and that within a very short time the decision has to be made between immediate continuation, intermediate continuation or fmal shut-down. As it became obvious in many cases the high vertical range of specialization can not be maintained and the voluminous tasks of auxiliary plants and subsidiary branches have to be separated. However this new division into single tasks often has the positive effect of offering possibilities to found medium-sized frrms. The Treuhand-Anstalt trys to fmd competent managers and it is not surprising that bottlenecks emerge and misjudgments are made. The centrat state planning and control system as well as the state monopoly on foreign trade led to an organizational structure which was very much orientated towards production. Consequently the new enterprises have major short-comings in the fields of procuring, sales and logistics. In many cases appropriate departments will have to be set up from scratch. Furthermore the old management systems cannot cope with the demands of the market economy. They are either underdeveloped or simply nonexistent, resulting in further organizational needs. The combines were the vicarious agents of state control. Their primary aim was to meet the centrally planned production quotas quantitatively. Desolate logistic chains are the consquence of this "performance-of-quotas" philosophy and the resulting vendor market. The new free-market environment forces many frrms to think about fundamentally new ideas. New concepts such as the division of Iabor and the resulting reduction of the degree of vertical integration, the demands of the market with regard to logistic continuity from component makers (sub-contractors) to clients need a new orientation. This also holds for new production planning and controlling targets to ensure the ability to supply. While in the past high workloads (utilization capacities) were the main aim, the new enterprises must now emphasize deadlines, low stocks and short throughputs. Figure 3 shows clearly the increased weight of these individual aims during the transition process from command to market economy. This shift of the emphasis within the hierarchy of goals not only requires new technological solutions, but above al1 a completely new way of thinking in tbe sense of logistical integration throughout all corporate Ievels. The new frrms have basically no experience in tbese fields. The transition from the command to the market economy is made even more difficult by the fact that the plants in the former GDR now have to compete in all aspects of their performance. This situation so far bas been unknown to most of the combines in the domestic as weil as foreign markets. Tbe complete reorientation requires considerable efforts to get respective 5 Matsugi/Oberhauser

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partners inland and abroad. A study by the Institut der deutschen Wirtschaft in Cologne shows that between March and December 1990 mainly West German enterprises have invested in the new federal states. Foreign investors have kept a low proflle until now. At the moment their commitment is restricted to the development of new sales markets. About 90% of the roughly 1.000 commitments are West German activities. Of the 10% originating from foreign enterprises, a quarter were J apanese. As fig. 4 shows, 40% of foreign-based economic activity in East Germany is attributed to EC enterprises and 15% to the EFfA-countries. The commitment in the new federal states can occur directly or via subsidiary companies or branches in West Germany. In cantrast to the undertaking from other countries, theJapanese companies execute more than half of their business directly, thus avoiding the long way via their West German subsidiary companies. In the short-run, the Japanese emphasize distribution objectives. Yet their dynamic commitment points at safeguarding their market shares. Special preference is given to trade and services. Obviously the Japanese are making use of Germany's geographical situation in order to gain even a better foothold in a central position in Europe. The majority (about 60%) of industrial involvement by West German enterprises is in manufacturing industry, especially in mechanical and electrical engineering, foUowed by vehicle construction. About 25% of the West German activities are in services. The types of commitment of the West German enterprises vary. Figure

5 shows that newly established businesses, joint ventures, cooperation

participations and other forms were taken into consideration. According to fig. 5 the mostfrequent way chosen by West German enterprises were newly established businesses and cooperations, foUowed by joint ventures. Cooperations in this case do not mean capital involvement, but contractually arranged mutual support. This contract in most cases applies to the distribution of products of the partner enterprise or to job contracts and franchising. Newly established enterprises in can be found above all in the services sector, as this practicaUy did not exist in the concept of the command economy. Banks and insurance companies had to set up a completely new distribution network in the five new federal states. Although the transformation of the old combines to new enterprises is largely legally completed, the managerial process is still stuck in the initial stage. The development of new company and ownership structures cannot be completed within such a short time. The speeding up of these transformation and transaction processes is determined by the way how the problem of the disused dump in the broadest sense is solved. This covers particularly the

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question of the land ownership, which is still unsettled. In the unification treaty the principle of reimbursement takes precedence over that of compensation. Another obstacle is the employment guarantee and consequently the problern of overemployment, as will be shown later. A further burden are the old liabilities. It is possible that these debts will be directly taken over by the Treuhand-Anstalt. The complete debt relief for Zeiss Jena is the most recent example. The fourth difficulty is the extremely high Ievel of land pollution, which was typical in many of the combines in the forrner GDR. In the case of takeovers, the purchaser usually wants tobe free frorn any future claims for cornpensation. Finally an interesting problern should be mentioned which is somewhat neglected in the current discussion. In the long terrn the five new federal states offer many interesting production opportunities as weil as sales potential prornoted by a variety of direct and indirect state incentives. Enterprises now have the possibility to reflect critically upon their locational policy, either for the whole cornpany or for single branches. Doing this they rnight corne to the conclusion that a new locational policy should be adopted on the strategic Ievel. Thus competition will inevitably develop between Western and Eastern Gerrnany. If for exarnple a cornpany such as Dairnler Benz moves parts of its truck production to Eastern Germany there will be a respective loss of jobs in West Germany and new ones will not be created. Consequently there is the danger of social conflict within individual enterprises as weil as between the federal states on the whole. These problems are very likely to increase if the current cyclical uptrend weakens or even stops. 4. The introduction of new management systems in the former GDR In part 3 the property and the cornpany structures which existed during the transition from command to rnarket econorny were described. One of the rnain features was the srnall amount of autonomy which the rnanagement of the econornic units - especially in the cornbines - was permitted. The following fourth part will furhter elaborate on this aspect in order to point at the rnanagernent problerns which the new enterprises in the five new federal states have to face. The questions concerning the internallines of cornrnand in the combines ultirnately raises the question of the underlying scientific concepts and their application. This question concerns the developrnent and identity of the generat business adrninistration in the GDR. A closer description of this topic

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would be beyond the scope of this paper. Thus only some milestones shall be mentioned which are important to understanding the process. After the Second World War the sciences became explicitly political in the socialist countries in the sense that they bad to take the part of socialism. This Marxist-Leninist orientation affected economics, and in particular generat business administration. It was demanded that the latter be integrated into "Political economy". Yet the call met with resistance and an interesting debate about the relation between economics and generat business administration developed. In 1951 all chairs of generat business administration in the GOR were closed and the "Political economy'', which was meant to serve ideological education, was placed at the centre of attention to form a decisive pillar of socialist theory. The following subjects were more practically orientated: "Economics of the National Economy'', which dealt primarily with questions of economic planning and "Business Economics", which dealt with questions of plant organization, administration and planning methods. At the end of the 1950s a discussion started on whether to create "socialist business administration". In 1970 the goals of this socialist generat business administration were ascertained and determined in a form which was met with party approval. The discussion concerning the introduction of a "Leadership Science" can be regarded as being closely connected with this development. Already in 1964 Mittag, the leading economic ideologist, called for a socialist management theory which could incorporate Western management approaches. Marxism-Leninism was the ideological basis of management theory. It was installed at the universities at the end of the 1970s. Its principles were: (1) democratic centralism (2) unity of politics and economics (3) individual guidance and personal responsibility combined with collective consultation. As mentioned above, directive centrat planning was a constitutional feature of the GDR's command economy. This generat understanding was expressed in the principle of the unity of plan, balance and contract and was reflected in the management system structures. Government plans were the binding foundation for the businesses. The business plans of the nationalized companies (five-year plan, one-year plan) were an element of the overall economic planning and their main purpose was to ensure the realization of the overall economic plans. The balancing of accounts was regarded as the main method of planning. The purpose was to coordinate "target" (in the sense of expenditure) and

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"use" (in tbe sense of return), and to balance botb together. Accordingly many balance sbeets bad to be made, requiring considerable personnet resources. Business contracts regulated the details of the intra-business goods' and services' excbange, whicb were not fiXed by business plans. These were considered necessary to specify the plan data and to coordinate all business activities. The realization of the unity of business plan, balance of accounts and business contract on different Ievels required a very complex tuning process, which was both Iabor and time intensive. Difficulties resulted also from additional adaptation requirements from short terms changes in political goals. Consequently, it was more or less impossible for most businesses in the GDR to act quickly and flexibly to economic situations. The transformation of a planned to a market economy reveals another central problem, namely the Iack of competence and experience in long-term strategies. As mentioned earlier, combines were directly integrated into the overall economy planning. Thus the responsibility for the long-term operating result was not with the combines themselves, but with the Council of Ministers, causing two structural deficits. Firstly, there was a total Iack of long-term planning, supervision and coordination systems or, in general, of any strategic controlling system. Secondly, corresponding know-how in the field of strategic controlling was neither taught at the universities nor gained in plants. Deficits are also visible in the field of operative controlling. In the nationalized businesses, accounting was integrated into the national economic accountancy and regulated through various legal norms. Additionally corporate accounting was consolidated with internal and external statistical reporting. With the transformation to the market economy many of these statistical requirements became obsolete, raining the question how both external and internal accounting can be adapted to the new requirements. Corporate practice shows that experiences in the field of registration can be utilized. Problems now imply a different understanding and use of economic data, which is orientated towards business goals. In particular the conversion of information into managerial action requires a fundamental understanding of business administration. These deficits can only be reduced by appropriate training and instruction. Tbis issue will be discussed in part five. The shortcomings in operative and strategic controlling raise the question as to how controlling systems in the new enterprises are to be structured.

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One possibility is the import of controlling systems from the Western companies. Another way is to develop specific controlling systems, which fulftll the specific needs of the new companies. The frrst alternative may indeed be much quicker and is usually recommended by Westernbusiness consultants. However, this alternative could be quite dangerous, since it does not take into account the specific circumstances of the new enterprises. Systematic development and implementation processes must be initiated. Therefore, as opposed to the previous centralization of decisions, an overall concept for success should be pursued and linked to management. Decision makers on alllevels should be integrated. This procedure is facilitated by the fact that the former combines bad similar planning and controlling systems. Acceptance problems can surely be reduced by the decentralization of decision processes. This also differs from the previously practiced democratic centralism. However, a considerable amount of time is required for the development and formation of these systems. In the centrally planned economy the system of planning and supervision was highly detailed, extensive and complex. It was more or less dictated, and consisted of numerous reference numbers and indicators for production planning and inter-company clearance. It was not adapted to specific businesses, but integrated within the central planning and supervision system of the government. Therefore, the new controlling systems must be adapted to the specific enterprises. This is especially important for cost accounting systems, as existing concepts are not adapted to the specific needs of management. These tasks make cooperation between theory and practice absolutely necessary. However they also open new prospects to enhance tbe scope of controlling theory and reduce current deficiencies. As a result, all companies - not only new enterprises - will profit. All this shows how the transformation of command to market economy includes many problems related to management. In addition internal and external corporate accounting faces great challenges, but in the short-run no direct solutions are available. The time period for transformation given by the legislator is too short. Pragmatic solutions are necessary if new enterprises are to continue to exist. In addition it is no use endangering new enterprises with legal charges and standards. We are now only at the beginning of the discussion, but it is already obvious that the suggested time period for transformation is absolutely unrealistic.

Managerial Deficits and Solutions in East Germany

71

S. Human resource management in the new companies Today's employment situation in the five new federal states is desolate and deteriorating further. There are several reasons wbich can hardly be understood outside their bistorical context. An analysis of employment should include both the national and the individual business unit perspective. In the GDR the job marketwas not organized primarily according to economic criteria, but rather social and political ones. Thus, for example, the worker's engagement with the plant was far more important than bis mobility and bis efficiency. The right of work was irnplemented by the primacy of obtaining full employment, while dispensing with rationalization and flexibility. The integration of the former GDR into the FRG included and includes not only (1) economic transformation processes following the break-up of the centrat administration and the introduction of free-market structures, but also (2) technical processes through the creation of modern, efficient and labour-saving - all in all competitive - capacities in every corporate field. Additionally the integration has to include (3) ecological processes in wbich ecologically unacceptable production and energy systems are eliminated, and environment-friendly solutions are created. Finally (4) social processes should be adopted by irnplementing new organizational forms in the field of education, health and the social services. Today's job market in the five new federal states is determined by these processes in all economic sectors. They result in worker redundancy to an extent and at a speed, which was so far unknown. The break-up of the old structures has led to insecurity and incalculability for the employee and thus is a potential reservoir for social tension. Tbis tendency is further supported by the fact that the population of the form er GDR expects a trouble-free and smooth transition from the old system to the new one. These expectations have been increased by the promises of politicians. As manufacturing activities in the five new federal states were already on the decline in 1990 (Fig. 6) the unemployment figures increase constantly. In January 1991 about 760.000 unemployed persans were registered officially in the new federal states. But this nurober does not show the total dump resulting from the command economy. At the moment 1.9 million workers are on short-time and of those every fd'th is almost without any work. Figure 7 shows the structure of short-time work. However the present short-time work will run out on the frrst of July 1991. This will Iead to a radical rise in the unemployment figures because more than 900.000 employees worked less than 50% of their working time in January 1991. Redundancy especially affects the big plants. According to an inquiry by the IDW in December 1990,

72

Hans-Josef Brink

small and medium-sized companies consider increasing employment (Fig. 8), but only one in nine oftbelarge companies foresees a medium-term rise in tbe work-force. Tbe support of small and medium-sized companies will certainly make a major contribution to reducing tbe unemployment figures in tbe new federal states. Unemployment bas not yet reacbed its peak. Tbe increase in sbort-time working is an important indicator for this assertion. This employment situation can be explained by several reasons. Tbe until now bighly subsidized industries created a barely imaginable illusory employment in tbe GDR 's command economy. This applies particularly to the agricultural and tbe food industry professions. Tbe plants of tbe GDR bad to realize voluminous management and administration tasks, whicb occupied many workers. The reason for this lies in the essence of centralism, which needs a big bureaucratic apparatus to ensure its efficiency. Centralism found its expression in tbe constant compilation of indexes and materials input-output statements. Tbus, for example, in a plant at Leipzig 517 indexes and 210 statements bad to be prepared, occupying more than 40 employees. This example demonstrates why the share of administrative and white-collar professions exceeds 13%. These professions are the consequence of administrative macbinery, blown up bureaucratically from the ministries to tbe state plants. This displacement is supported by the fact tbat the GDR plants bad only achieved a low Ievel of office rationalization. Efficient information and communications technologies will Iead to further redundancies. The combines bad a high number of employees due to a Iack of rationalization. Technical measures to reduce this nurober were not carried out with the necessary consequence. Furthermore there was no incentive to encourage possible efforts due to the Iack of competitive pressure. The potential savings through the introduction of flexible automation systems for example are estimated tobe above 2,5 million employees. Another reason for the high nurober of employees was the bad utilization of working time. Supply shortages as well as constant disturbances during the manufacturing and operations processes led to idle time and standby time. The result was not only output Iosses but also the disincentive effects on workers and consequently a reduction in the readiness to take full advantage of working time. The Iosses in working time are estimated to be up to 30%. The situation can be illuminated witb the help of two examples. The frrst one concerns the former VEB-Mansfeld-Combine Wilhelm Piek. This combine included mines, iron and steel works, rolling mills, several metal processing plants, mechanical engineering, construction and engineering,

Managerial Deficits and Solutions in East Germany

73

trade companies, engiDeering companies, transport and construction companies and the obligatory cultural, supply and vacation services. The single plants were scattered over the whole GDR, yet the centerwas in the Harz Mountains. The production program was concentrated on nonferrous industries. The total number of employees amounted to 48.000. Due to the government efforts towards autarky this combine was heavily subsidized, as the following two figures show. Each ton of copper produced by the combine cost 47.000 GDR mark. On the world market the price of this metal varies between 3.500 and 4.000 DM/ton. By the end of 1990 probably not more than 10.000 employees will work at the succeeding company, and a further reduction cannot be excluded. Another example are the Zeiss-Werke in Jena (former GDR) and in Oberkochen (FRG). The enterprise in Oberkochen was founded after the expropriation of the Zeiss-Werke in 1948. Despite their nearly identical product range they have not been in a very hard competition so far, because 90% of turnover of the Eastern German company Jenoptik was in Eastern European countries, especially in the USSR. Since these markets practically collapsed, Jenoptik has been looking for potential sales in Western European markets. Thus it will become a direct competitor of the Zeiss Werke in überkochen. Before the upheaval Zeiss Jena employed about 29.000 workers. Today there arestill 27.000 employees, 17.000 of whom work short time and 7.000 who do not work at all. According to the current planning the company will be able to keep 5.000 jobs. If the planning turns out well the number might even rise to 10.000. It seemed logical that both companies (Zeiss-Werke Oberkochen and Jenoptik) should start talking about a possible merger. However negotiations have recently failed. One of the reasons is the fear shared by Zeiss Jena and the governrnent of Thüringen to become merely an extended workbench of überkochen. The Treuhand-Anstalt freed Zeiss Jena of 1.3 million Deutsche marks in debts and transcribed the shares to the Carl-Zeiss-Foundation on the 1st of April 1991. While my observations so far were concentrated on macroeconomic aspects, the individual perspective will now be considered. Comparative analysis of the situation in Eastem and Western Germany requires that a clear statement be made concerning the grasp of human resource management in research and in practice. This kind of analysis is crucial to the development of new solutions that ultimately include the integration of

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Hans-Josef Brink

both Western and Eastern approaches in cantrast to a simple adoption of traditional West German solutions. In the center of human resource management was the reproduction of operational human capital. In the scientific field this discipline was attributed to labour economics. It is important to remernher that the personnet autonomy in the combines was very limited. The planning premises and the corresponding reports about index numbers and balance-sheets were obligatory. The afore-mentioned right to work was strictly applied to the operational personnet policy and consequently quantitative adaption could only take place in exceptional cases. Individual further education was also directly controlled by the state. Comparative analysis reveals a special need for action in the new companies in the following fields: (1) ascertaining staff requirements (2) redundancies (3) human resource development (4) human resource costs. New efforts will bave to be made not only in planning but also on tbe control side. From the temporal point of view there is enormous pent-up demand in the field of strategical human resource management as the combines bad in principle no long-term decision-making power. The requirements for operational human resource management result from several sources: especially from the reduction of the vertical integration, from the necessity of setting-up distribution structures, the installation of management support systems, such as controlling. This Ieads to the question as to how far the workers' qualifications in the former GDR can meet these demands. The frrst observation is that the population of the GDR has very high educational qualifications (above 80%). However these qualifications are orientated towards the old structures and thus only partly suitable for the requirements of a market economy. The proflies of new jobs and old qualifications do not correspond to one another. Particular deficits can be observed in the field of managerial and specialists' qualifications. These deficits are the result of misdirections on the macro levrl due to the centrat bureaucracies (for example due to the qualification procedure for the universities). Thus despite the high unemployment, the new enterprises need top management and specialists in those sectors which either bad been of very little importance or did not exist at all. Figure 9 shows the distribution of vacancies according to function and branches. There are interesting

Managerial Deficits and Solutions in East Germany

75

approaches which might help to ease the management's plight at short notice, for instance the engagement of former West German managers who are partly placed by the Treuhand-Anstalt. Still these short-term solutions will have to be accompanied by corresponding, long-term oriented advanced training schemes. In Eastern Germany further education will have to be organized above company Ievel as well as internally. The Deutsche Bank, for example, faces the task of raising the Ievel of knowledge of nearly 8.000 employees of the adopted subsidiaries of the Deutsche Kreditbank as quickly as possible up to Western standards. According to the bank's information 2.700 employees will attend seminars until the end of the year, another 2.800 will be offered computer-based training. The 1.000 Western employees who were sent to the new subsidiaries, however, are still absolutely necessary for setting-up business. The recruitment of employees in the new federal states creates special problems. The patterns of thinking adapted over forty years of command economy cannot be changed overnight. In February 1991 an inquiry into top management's estimates concerning the Ievel of relevant business knowledge for the market economy was published. The results are shown in figure 10. It is interesting to notice that the estimates before the first of J uly 1990 were far more positive than after this date is of interest. This observation makes clear that a distinct change in perception has taken place, since after1st July only every sixth former GOR manager thought to have enough know-how. Another point of interest is tbe top management' s conception regarding their leadership competence. The majority of former GOR top management believes that management should be the result of professional superiority in many fields. However for Western top managers the focus of performance has to be put upon coordination, motivation and the combination of knowledge. These different opinions show the area of tension in which vocational training is embedded. Another problern of human resource development concerns the transfer of West German top managers and specialists to the form er GOR. It can be neither in the interest of the West German economy, nor of the East German one to use these transfers to deal with East German scarcity of skilled managers and specialists. lt is rather the East German Iabor market which should be used to recruit managerial staff. Thus the question arises as to how far politically burdened top managers can take over leading positions. This question is politically explosive and its discussion so far has only been started very carefully. Another problern for Western enterprises is the choice of top managers from the available potential of the top-Ievel management of 180.000 persons. Detlef Rohwedder, the former head of the Treuhand-

76

Hans-Josef Brink

Anstalt, estimates that East Germany Iacks 20.000 qualified top managers. In the meantime some results for the selection procedure for top managers have become available. There are few problems in taking over technicians, mechanical engineering specialists, engineers or scientists. Long-serving personnel managers and accounting specialists however mostly fail. The failure of personnel managers is partly due to political reasons because personnet management staff were also party governors. Accounting management can no Ionger be employed because general administration sciences in Western and Eastern Germany developed in completely opposing directions after the Second World War. 6. Conclusion (1) The microeconomic management of the economic units (combines and

plants) from a macroeconomic perspective has failed in the former GDR.

(2) The combines' economic structures do not correspond to market economy requirements. In particular experience in the fields of strategic management and controlling is lacking. Deficits exist in procuring and sales sectors. Management oriented cost accounting systems are also missing. (3) Management systems in the new companies of the former GDR must be conceived and implemented according to the specific situation. The unreflected transfer of methods from the former FRG is not recommended. Behaviour and attitudes practiced over decades in East Germany must be taken into consideration. (4) The organization of management systems must be accompanied by programs to promote and continue training and education on every Ievel within and outside businesses. (5) The organization of the necessary market and management potential in the new firms can not be realized in the short-run. Longer adaption periods are required, along with corresponding motivation and financial problems. Short run bottlenecks cannot be sacrificed for long run integration strategies.

-Human Res. Management

- Property Right - Corporate Structure - Management System

Objectives

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References Amos, Orley M. (1988), "Unbalanced Regional Growth and Regional Income Inequality in the

I..atter Stages of Development•, Regional Science and Urban Economics, 18, 549-566

Chenery, Hollis B. (1962), "Development Policies For Southern ltaly", The Quarterly Journal

of Economics, 76, 515-547

Economic Planning Agency (1969), Economic Plans in Japan (Nihon no Keizai Keikaku), Ministry of Finance Economic Planning Agency (1970), New Development Plan of Economy and Society (Shin Keizai Shakai Hatten Keikaku ), Ministry of Finance Economic Planning Agency (1976), Economic Plan for the Second Half of the 1970s" (Syowa 50 nendai Zenki Keizai Keikaku), Ministry of Finance Economic Planning Agency (1980), Seven Year Plan for New Economy and Society (Shin Keizai Shakai 7 kanen Keikaku), Ministry of Finance Economic Planning Agency (1989), National Economic Account Quarterly, No.2 Hirschman, Alben 0. (1958), The Strategy of Economic Development, Yale University Press Intriligator, Michael D. (1964), "Regional Allocation of Investment: Comment•, Quarterly

Journal of Economics, 78, 659-662

Kumets, Simon (1955), "Economic Growth and Income Inequality", American Economic Review, 45, 1-28 Michel, P. , Pestieau, P. and 7hisse, J.F. (1983), "Regional Allocation of Investment with

Distributive Objectives•, Journal of Regional Science, 23. No.2, 199-209

Ministry of Autonomy, 1960-1986, Public Investment (Gyousei Toushi Jisseki), Chiho Zaisei Kyoukai Ministry of International Trade and lndustry, 1955-1986, Census of Manufactures, (Kougyou Toukei Hyou), Ministry of Finance Okita, Saburo (1960), Explanation of Income Doubling Plan (Kokumin Shotoku Baizou Keikaku

no Kaisetsu), Nihon Keizai Shinbunsya

Okuno, N. and Yagi, T. (1989), "Public Investment and Interregional Output-lncome Inequality",

Regional Science and Urban Economics, forthcoming

Rhaman, Anisur, (1963), "Regional Allocation of Investment•, Quarterly Journal of Economics,

77, 26-39

Salcasita, Noboru (1967), "Regional Allocation of Public Investment•, Papers of the Regional

Science Association, 16, 161-182

Talcayama, Akira (1967), "Regional Allocation of Investment: A Further Analysis", Quarterly

Journal of Economics, 81, 330-337

Williamson, Jeffrey G. (1965), "Regional Inequality and the Process of National Development:

A Description of the Patterns", Economic Development and Cultural Change, 13, 3-45

Interregional DifTerence and Public Finance Nobuhito Takeuchi Yuko Arayama

Part 1: lndustrial Structures and their Fiscal lmprovement

Nobuhito Takeuchi 1. lntroduction

The problern of interregional difference in Japan has been often discussed since the 1950's. At first, in the late 50's, the issue was on the economic (i.e. income or productivity) difference mainly raised by prefectures of the lowincome regions. Then in the early 1960's, it focused on the problern of overpopulation and depopulation caused by industrialization and urbanization. In the late 70's, the environmental pollution in the industrialized areas became a matter of great concern. In the late 1980's, the excess concentration of economic activities in Tokyo caused the concentration of population in the metropolitan area to become extreme. Heated discussion on the transfer of the capital from Tokyo attracts considerable attention of the nation. Interregional difference has two aspects: an economic aspect and amenities, but the former is more important than the latter. People with low income move to cities where there are lots of opportunities to get jobs. As a result, big cities become overpopulated, while local areas decrease in population, and the amenities become worse in both regions. People with high income are keenly susceptible to the deterioration of tbe amenities, but low income people do not need amenities to keep their living standard intact. Therefore, the analysis of the economic aspect is basic to the wbole problern of the interregional difference, which I would like to take up in this paper. In the period of rapid economic growth, a large number of workers moved from Kyushu and Tohoku to Tokyo, Nagoya, and Osaka. At about the

116

Nobuhito Takeuchi/Yuko Arayama

same time, the movement from primary industry to secondary one occurred in the Japanese economy, especially in the heavy and chemical industry. The principal persons engaged in farming decreased from 14.23 million in 1955 to 3.7 million in 1985. Until now, the national government carried out four projects of nationwide multi-purpose development, which proposed not only the industrialization and well-balanced development of a1l areas of Japan, but also the dissolution of the overpopulation and depopulation among the regions. The actual share of population of big cities is as follows: in 1955, 17.1% in Tokyo, 12.2% in Osaka, and 7.6% in Nagoya; in 1975, 24.2% in Tokyo, 15.0% in Osaka, and 7.6% in Nagoya. In each area, population increased rapidly until the end of the period of high economic growth. Also in the big cities, many people vacated the heart of the city and moved to the sprawling suburbs of the city, making the so-called doughnut phenomenon. In 1985, the population share of Tokyo became 25.0%, while that of Osaka 14.0%, and Nagoya 7.6%. This shows that the population share increased only in Tokyo; in Osaka it fell and in Nagoya it stagnated. Thus the population began to concentrate in only one area, i.e. the metropolitan area, after the period of rapid growth; on the other band, in Osaka and Nagoya, the population influx ceased or remarkably weakened. Next we want to investigate the production aspects. In 1975, the ratios of Gross Prefectural Product to GNP were 28.4% in Tokyo, 16.3% in Osaka and 9.3% in Nagoya. In 1985, they were 29.9% in Tokyo, 15.5% in Osaka and 9.5% in Nagoya. The concentration toward Tokyo is also remarkable in the production aspect. Among these three big cities, the economic foundation of Osaka is getting worse. The share of retail sales were 11.6% in Tokai (i.e. Aichi, Gifu, and Mie), 26.4% in Kanto (i.e. Tokyo, Chiba, Kanagawa, and Saitama) and 14.9% in Kinki (i.e. Osaka, Kyoto, and Hyogo). As was mentioned above, during this decade, economic activity and population have concentrated remarkably in Tokyo, while other cities, which bad fascinated people during rapid growth, are losing their attraction. Moderate concentration of population and companies brings about the external economies and the efficient utilization of social capital. But excessive concentration gives rise to the external disecomonies and the deterioration of production and amenities. If such a situation continues, the traffic and housing conditions will become worse than ever, until economic efficiency deteriorates and a harmful influence on the progress of economy and society is exerted. As for regional development, it is very imbalanced. As a result, the supplies of regional public services are imbalanced among the prefectures. It

Interregional Difference and Public Finance

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may be inferred that in many local public bodies, only 30% of their revenues are fmanced by their own revenue (so called "30% autonomy of local government"), and 70% of revenue resources depends on subsirlies from national government. Tbis situation causes a critical phase to the local autonomy. Nowadays the prefectures which can fmance their activities with their own self-dependent revenue amount to only 4 (Tokyo, Kanagawa, Aicbi, and Osaka) from 47 in all Japan. Among 3,254 municipalities, only 165local public bodies can do without the local allocation tax. Interregional difference of local fiscal capacity depends on the uneven distribution of tax sources, wbich, in turn, is due to the imbalance of the regional economic activities. Disparity of fiscal capacity results in the inequality of public services, and is one of the reasons of overpopulation and depopulation. In order to dissolute the disparity of fiscal capacity, it is necessary to equalize the economic power of every region. This paper will analyze the interregional disparity and its change by means of coefficients of variation {COV). 2. Interregional economic differeoce First, we are concerned with the interregional economic difference. 2.1. Net prefectural product

Net domestic products increased 21.5 times over 25 years from Y12,192.5 billion in 1960 to Y261,735.2 billion in 1985. This was a great change even considering price increases. However, the interregional disparity of growth is large, and the gap between the low-growth regions and high-growth ones remains almost the same. COV of the difference of net prefectural product is shown by the solid line in Figure 1. It rose remarkably from 1.24 in 1960 to 1.41 in 1965. This difference continued until 1972 and then dropped down gradually. This was caused by the decrease of the growth rate in high ranking prefectures. COV was 1.27 in 1979, wbich was near the 1960 Ievel. From then, the difference expands and COV reaches 1.35 in 1987. The reason of difference expansion are as follows. (1) Rapid economic growth in the Tokyo area. (2) After the oil shock, a structural change occured from material to processing industry, and income and employment became stagnant in the regions wbich could not keep up with tbis change. (3) The huge deficit of national government depresses the function of public fmance, wbich reduces the interregional

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Nobuhito Takeuchi/Yuko Arayama

difference. The dotted line in Figure 1 shows COV without Tokyo. It seems to resemble a solid line, but COV is 0.3-0.4 smaller and flatter than the one with Tokyo. That is, Tokyo is a major cause of the interregional difference. In particular, a large part of expansion of the difference after 1980 is explained by the growth of Tokyo. In viewing the growth rate of net prefectural product, the growth rate of large cities (Tokyo, Osaka, and Nagoya) was !arger than that of local areas, and was 20% more in 1960, 61 and 65. On the other band, the growth rate of local areas was constantly about 17%. This growth rate difference brought about the expansion of the interregional difference. In the late 1960s, the growth rate of the big cities dropped to about 18%, and the local areas stayed at the same Ievel. As a result, COV was stabilized at the high value. In the 1970s, the local areas grew up a little higher than the big cities and COV was depressed. In the 1980s, the growth rate of big cities, especially Tokyo, was higher than that of the other areas and the difference is expanding.

2.2. Per capita prefectural income Next, we see the prefectural difference of per capita prefectural income (PCPI). Figure 2 shows that COV of PCPI is rather low in comparison with that of net prefectural product. It was relatively high in the late 1950s and the early 1960s. In 1961, it reached its highest value, 0.28. Since then, it declined until about 1980. The reasons for the decline after 1960 are as follows. First, population moved from the low-income prefectures to the high-income ones. Social movement of people causes the problern of overpopulation and depopulation, but reduces the interregional income difference. The second factor is public expenditure, which will be explained in the next section. The third is that the Iabor market became so tight that the interregional wage difference decreased and starting salaries rose. Then factories moved to the local cities and wage-rising spread over the local areas. Fourth, the method of deciding the rice price changed to the one of guaranteeing the production costs and income of farmers. This increased the income of prefectures mainly composed of income from primary industry. COV ofPCPI is expanding after 1980. The reason is the same as the case of net prefectural product. The difference (COV) of PCPI was reduced more than that of net prefectural product because the population movement decreased the difference of income. Next, the lowest and highest prefectures of PCPI are as follows. In 1960 V60,000 in Kagoshima, and V229,000 in Tokyo (3.32 times) In 1985

Interregional Difference and Public Finance

119

V1,544,000 in Okinawa, and V3,094,000 in Tokyo (2.00 times). The difference between lowest and highest was about threefold in the 1960s, but twice after the 1970s when the economic growth rate was high, and the interregional difference expands and vice versa. This is because secondary industry grows and the primary one stagnates in boom; on the other band in recession, the secondary one falls, but the primary one doesn't sink because of the farm support policy, etc..

2.3. Distribution of population The growth rate of the three big cities was !arger than that of other areas until the 1960s. It means there was a large inflow of population to these areas. The movement of population in those days bad three characteristics. First, people mainly concentrated on the three big cities (Tokyo, Nagoya, and Osaka) and their suburbs. Secondly, people moved to the basic or to some extent industrialized areas (Sapporo, Sendai, Hiroshima, and Fukuoka). Third, people who moved to the big cities were the second or third persons of a farming family, who could not get a high-income job in the country. In the middle of tbe rapid growth period, social movement of people was promoted, but in its later period, a new phenomenon occurred. This was tbe so called J-turn or U-turn in which some people returned to their home area. It was mainly caused by the deterioration of amenities in the city, and the concern over the benefits of the economic growth. In addition, time distance between local area and cities was shortened by the evolution of motorization, and factories dispersed from the three big cities to their outskirts or local basic areas (for example, Fukuoka, Hiroshima, Okayama). Furthermore people bad more opportunities of getting a job due to the development of the third industry in the local areas. In 1973, the oil crisis occurred and the circumstances of regional development changed greatly because of the end of rapid growth. The violent wave of social movement of people came to an end, and the growth rate of population in the three big cities approached the average national Ievel. Especially, in Osaka, the population spilled out and the growtb rate fell below the national Ievel. In the 1980s, Nagoya bad a stable growth rate of population, but Tokyo showed a high growth rate in comparison with the average national Ievel. This is caused by rapid growtb of the services industry, and the concentration of head offices to Tokyo.

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2.4. StTucture of industry

Next, we are concemed with the interregional difference in industrial structures. The share of primary industry has monotonously decreased since the late 1950s. On the contrary, the share of secondary industry increased by about 10% (from 30.3% in 1955 to 39.3% in 1964). It was stable in the late 1960s. After 1972, it decreased and feil to its lowest Ievel, 35.8% in 1978. Since then, it has remained at araund 37%. The share of tertiary industry remained 49% during the late 1950s through the early 1960s, and rose up to about 52% in the late 1960s. lt rose gradually in the 1970s, and got to 60% in the late 1980s. In 1960 it seems that the prefectures with the low rate of secondary industry bad the high rate of primary and tertiary industry. In 1985, it was clear that prefectures with the low rate of secondary industry have the high rate of tertiary industry. This means that, in the process of industrialization, the advanced areas evolve from primary industry to secondary ones, and from secondary to tertiary ones. But in the less-developed areas, there is the possibility of turning from primary industry directly to tertiary, and not to a secondary one. In 1960 the amount of NNP is subject to the scale of secondary industry. But, in 1985, due to the tertiary industrialization of the economy, this relation collapsed. Next we will investigate the composition of the secondary industry in detail. The secondary industry consists of the mining, manufacturing, and construction industries. Among them, mining occupies a small part. The prefectures with a small share of secondary industry have a large share of construction in both 1960 and 1985. lts proportion is about 40% in 1960 and about 50% in 1985. Namely, construction plays an important role in the production of prefectures with a small share of secondary industry. On the contrary, prefectures with a large share of secondary industry have a high composition of manufacturing and their rate of construction is about 15%. The difference in the secondary industry was larger during the late 1950's and early 1960's (COV's were 1.57 in 1958 and 1.62 in 1965, respectively). But since the late 1960's, it was reduced by 0.4 and became stable in the 1980's at araund 1.25 Ievel. On the other band, the difference of the tertiary industry increased gradually and reached its maximum value 1.58 in 1973. It dropped to 1.37 in 1980. Since then, it has been increasing again.

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3. Fiscal improvement of the interregional difference The national government tries to reduce the interregional difference by several methods. These are divided into two main categories: one is fiscal aid to the expenditures of local public bodies; the other is government investment by national and local governments and public enterprises. 3.1. Fiscal aid

The national government subsidizes the local government to reduce their expenditure differences. This consists of the local allocation tax, local transfer tax, and national government disbursements for specific purposes. These aids play the following roles: (1) Maintenance of minimum public service, (2) improving interregional differences in local public services, (3) redistribution of tax revenue resources. In principle, a local government must finance its fiscal activities through their own fiscal revenue because public service supplied by them benefits the inhabitants living in the local area concerned. However, many local governments cannot get sufficient tax revenue to provide the national standard of local public service. This is because there is a large interregional difference of economic power and, as a result, a large difference in local tax revenue. Second, the national government has advantages over the local governments in the taxation system. Usually, national tax revenue is about 65% of the whole tax revenue. Local tax revenue occupied about 36% of the whole local revenue in the late 1950's to 1960's. In the period of low growth, national and local governments were not able to raise sufficient tax revenue, and the rate of local tax revenue declined. In the 1980's, due to the large deficit, the national government cut its disbursement for specific purposes and, as a result, the rate of local tax revenue rose. The recent rise of the rate of local tax revenue is due to the boom. Next, weshall see the prefectural difference of per capita expenditure of local governments. The COV of per capita public expenditure increased form 0.15 in the 1960's to 0.18 after the oil crisis. Until the oil crisis, economic activities were high in the large cities and the growth of tax revenue became large. Therefore, per capita expenditure didn't drop, even though the population increased rapidly. In addition, the national government bad sufficient tax revenue and gave considerable fiscal aid to local governments. On the other band, in spite of the inflow of population stopping to the large cities, the difference of per capita expenditure expanded due to the economic stagnation, especially in high-income prefectures, and the reduction of tax

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revenue. The 10 lower prefecturesin terms of per capita expenditure are economically rieb ones and receive little or no local allocation tax. On the other band, many of the 10 upper prefectures are included in the lower Ievel prefectures of net prefectural product. That is, the economically poor prefectures receive large fiscal aids from the national government and supply expensive public services. Comparing per capita prefectural expenditure with per capita prefectural income, the inequality of the laUer was }arger than that of the former until 1975. Afterward, the per capita expenditures of low-income prefectures were larger than those of high-income prefectures. It is considered that local public fmance has the effect of improving the inequality of per capita prefectural income. Now, we shall be concerned with the relation between prefectural public expenditure and net prefectural product. The prefectures with low economic power have high rates of public expenditure and vice versa. The lowest rate of net products is 0.41% of Tottori and its rate of public expenditure is 40.8%. On the contrary, the highest rate of net products is 17.4% of Tokyo and its rate of public expenditure is 13.7%. This relation may be shown in other years. It indicates that in the prefectures with low economic power, the economy depends greatly on the local public fmance. 3.2. Govemment investment

Government investment is the total public capital formation by national and local governments and public enterprises. Its purpose is to enrich the environment of production and life, and its allocation has a Iot of influence on the interregional difference. First, the structure of government investment will be reviewed. If we seperate big cities from local areas, in the rapid growth period, the share of government investment of the big cities was about 60%. Then it declined since the late 1960's, and fell to its lowest in 1979, at 51.6%. However, it has been increasing again gradually since then and reached 53.9% in 1987. The share of Kanto Seaside areas (Tokyo, Kanagawa, and Chiba) was 24.3% in 1970, 19.5% in 1979, and 22.3% in 1987. According to the total public investment, during the rapid growth period, the national government put stress on the development of big cities. In the second half of the rapid growth period, such problems as overpopulation, depopulation, and interregional difference, became more serious and the national government began to consider the development of local areas. But it is worth noticing that, as a result of distortion by economic concentration, the national government

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concentrated the public investment on the large cities in order to improve the distortion. The 10 upper prefectures in terms of the accumulated amount of government investment from 1960 to 1985 were Tokyo, Hokkaido, Osaka, Kanagawa, Aichi, Hyogo, Chiba, Fukuoka, Saitama, and Nügata. All prefectures except for Hokkaido and Nügata were included in large city areas. The interprefectural difference of government investment decreased from the late 1960s, dropped to the lowest value in 1979, but expanded recently. The highest COV was 1.2 of 1963 and the lowest 0.76 in 1979. The reduction of the difference in the late 1960s was caused by the investments of the national government, which were effectively aUocated to the local areas. The expansion of the difference after 1980 was caused by two reasons. First, government investment by the national government, which has a large effect on the improvement of the difference, was stagnated and reduced because of the )arge deficit of the national government. Second, government investment by local governments, which is influenced by the difference in fiscal capability, was expanded. The highest value of COV of per capita government investmentwas 0.32 in 1960. Since then, it decreased during the concentration of population and reached the lowest Ievel of 0.15 in the early 1970s. Then it started increasing again. The recent increase is explained by the end of population influx and the stagnation of investment of the national government. Concerning the relation between government investment and industrial structure, the former is considered to expand the size of secondary industry, especially the construction industry. The prefectures with the small share of secondary industry have a )arge share of government investment. The prefectures with a low rate of secondary industry have a high rate of construction industry. One can say, in the underdeveloped prefectures, most of the secondary industry is supported by the government investment. 4. Conclusion The regional economy in Japan has experienced great changes. In the first half of the rapid growth period, the interregional difference of total or per capita economic products enlarged. However, in the middle of the rapid growth period, the per capita difference was reduced by the concentration of population and fiscal efforts. The 1960's efforts of fiscal irnprovement of the difference were caused by the following reasons. First, people bad a sense of the critical situation for the interregional difference. It made the national government endeavour to improve the interregional difference. Second, owing

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to rapid growth, the national government bad sufficient tax revenue and was able to allocate it to local governments. Third, the Liberal Democratic Party bad its dominant constituencies in the rural farming districts and bad to allocate the fiscal fund to them in order to maintain its political power. As a result, interregional difference was improved. It is certain that interregional difference has been improved a Iot by these means. But it has made the undeveloped prefectures remarkably dependent on public fmance. Even now, local government officialdom is a good job for the rural inhabitants. Also, the rural inhabitants are temporarily employed by public enterprises, which is an important source of income. The rice price support policy plays an important roJe in maintaining the revenue of farmers in the low-income prefectures. Although, after the oil crisis, interregional difference declined more than in the frrst half of the rapid growth period, the regional economy didn't become independent from public finance and it is questionable whether the improvement policy of interregional difference by the governments succeeded or not.

In the 1980's, the interregional difference expanded again. It was caused by the conspicuous growth of Tokyo. But we can't forget the fact that national government does not have a sufficient source of revenue to allocate to the local areas due to its large deficit. The extreme concentration to Tokyo is caused by the internationalization of Japanese economy. In proportion to the internationalization of Japanese economy, information concentrates towards the centre of the J apanese economy, Tokyo, and it is difficult to manage firms without information from Tokyo. However, the concentration approaches physicallimits, and will exert an harmful influence on the Japanese economy. When society is changing rapidly, and with the approach of the aging society and the internationalization of our economy and society, it is difficult to forecast the future movement of regional activity. But such concentration of population as occurred in the rapid growth period will not happen again. That is, it will be reduced by the dispersion of factories owing to the rising price of land in the big cities, the deterioration of the amenities, and increasing one-child families. Moreover, the aging of the population checks the social movement of population because the moving cost of the middle or old aged is higher than that of younger people. In the local areas, the improvement of the amenities will be more important. However, it contributes little or nothing to regional production. As a result, the local economy will depend more on public finance.

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