responses to globalization in germany and the united states

Research Report

American Institute forContemporary German Studies

The Johns Hopkins University

AICGS Research Report No. 10

RESPONSES TOGLOBALIZATION INGERMANY AND THE

UNITED STATESSeven Sectors Compared

Edited byCarl Lankowski

i

American Institute forContemporary German Studies

The Johns Hopkins University

AICGS Research Report No. 10

RESPONSES TOGLOBALIZATION INGERMANY AND THE

UNITED STATESSeven Sectors Compared

Edited byCarl Lankowski

ii

The American Institute for Contemporary German Studies (AICGS) is a center foradvanced research, study, and discussion on the politics, culture, and society of theFederal Republic of Germany. Established in 1983 and affiliated with The Johns HopkinsUniversity but governed by its own Board of Trustees, AICGS is a privatelyincorporated institute dedicated to independent, critical, and comprehensive analysisand assessment of current German issues. Its goals are to help develop a newgeneration of American scholars with a thorough understanding of contemporaryGermany, deepen American knowledge and understanding of current Germandevelopments, contribute to American policy analysis of problems relating to Germany,and promote interdisciplinary and comparative research on Germany.

Executive Director: Jackson JanesResearch Director: Carl LankowskiDevelopment Director: Laura RheintgenBoard of Trustees, Cochair: Steven MullerBoard of Trustees, Cochair: Harry J. Gray

The views expressed in this publication are those of the author(s) alone. They do notnecessarily reflect the views of the American Institute for Contemporary GermanStudies.

©1999 by the American Institute for Contemporary German StudiesISBN 0-941441-44-X

This AICGS Research Report is made possible through a generous grant from theGerman Program for Transatlantic Relations and the Fritz Thyssen Foundation.Additional copies are available at $5.00 each to cover postage and processing from theAmerican Institute for Contemporary German Studies, Suite 420, 1400 16th Street, N.W.,Washington, D.C. 20036-2217. Telephone 202/332-9312, Fax 202/265-9531, E-mail:[email protected], Web: http://www.aicgs.org

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C O N T E N T S

FOREWORD............................................................................................v

ABOUT THE AUTHORS.......................................................................ix

THE POLITICS OF GLOBALIZATION IN GERMANY AND THEUNITED STATES U.S. IMMIGRATION POLICY

Philip Martin and Susan Martin.............................................................1

IMMIGRATION POLICY IN INTEGRATEDNATIONAL ECONOMIES

Thomas Bauer and Klaus F. Zimmermann..........................................15

GLOBALIZATION AND LABOR MARKETS:A VIEW FROM THE UNITED STATES

John Schmitt......................................................................................31

GLOBALIZATION AND LABOR MARKETS:A VIEW FROM GERMANY IN THE EUROPEAN UNION

Reiner Hoffmann..................................................................................47

HIGHER EDUCATION IN AN ERA OF GLOBALIZATIONDaniel Fallon and Mitchell Ash..................................................................67

INNOVATION AND GLOBALIZATION:A U.S.-GERMAN COMPARISON

David B. Audretsch and Maryann P. Feldman......................................79

GLOBAL CAPITALISM AND THE POLITICS OF SOCIAL POLICYREFORM IN GERMANY AND THE UNITED STATES

Elmar Rieger...................................................................................101

TAX POLICY IN A GLOBAL ECONOMY:ISSUES FACING EUROPE AND THE UNITED STATES

Gary Hufbauer.....................................................................................121

CHALLENGES OF GLOBALIZATIONFOR GERMAN TAX POLICY

Ullrich Heilemann and Hans Dietrich von Loeffelholz............................131

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INFRASTRUCTURES FOR GLOBALIZATION:TRANSPORT, TELECOMMUNICATIONAND ENERGY SUPPLY

Rudolf Petersen................................................................................147

INFRASTRUCTURES FOR GLOBALIZATIONHenry L. Michel...............................................................................169

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F O R E W O R D

This research report is the first of two that will issue from an eighteen-month project undertaken with the generous support of the Fritz Thyssen Foun-dation. The sequel, to be published later this year, is Governing Beyond theNation-State: Global Public Policy, Regionalism or Going Local?, which,as the title implies, focuses specifically on governance issues. Though integralto the project funded by Thyssen, the five corresponding papers were presentedas a group at a special workshop in March 1999 and for that reason is publishedseparately.

A condition and a set of challenges. Globalization was never restricted tothe economic dimension. After all, for most of this century, a world politicalsystem existed prior to a world economy. In ways both subtle and direct, cul-tural influences conveyed through film and mass media are contributing to thecreation of global consumer markets. The technology of mass international com-munication is facilitating the development of transnational societies. Temporarytrans-border travel made possible by developments in transportation infrastruc-ture is taken for granted by a growing number of individuals, either as businesspeople, tourists, migrant workers, or family members. Indeed, the shape oftomorrow’s economy will be contingent upon developments in all of these di-mensions and more. Yet, there is no point in denying the centrality of economicglobalization to the whole process. Mobile capital is transforming the spatialconfiguration of the economy and the relationship between public and privatesectors, and is compelling adaptation in all institutions.

The Euro-Atlantic area, by which I mean primarily EU-Europe togetherwith the United States and Canada, is a crucible and platform for these dynamicdevelopments. All of the dimensions to which allusion has just been made arepresent in unparalleled density in this area. In that sense, this project can claimto generate insights with at least modest claim to generalizability within andeven beyond the Euro-Atlantic world. Because of their economic size, interna-tional position and geographical location, Germany and the U.S. will play a cen-tral, if not necessarily a “leading” role in achieving fruitful adaptations of theinstitutional nexus most important for their welfare and democratic stability.

Globalization has created a political challenge of the first magnitude and it ismainly for political reasons that national governments are called upon to act.Publics have come to hold politicians accountable for the performance of theeconomy as a surrogate for sustaining a way of life. But measured against thegains accruing to an increasingly broad middle class from ca 1950 to ca 1975,politicians are ever less able to capture and redistribute the fruits of economic

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development for their constituencies. Moreover, other aspects of globalizationhave raised questions about the shape and identity of the polity to be served.Consequently, systemic change is on the agenda, i.e., change in the aims, mo-dalities and interrelationships among key institutions.

With these papers, we hope to contribute to providing a more accuratepicture of the dimensions of globalization and the challenges it addresses in thefirst instance to Germany and the United States. We are also interested in theiradaptive capacities as seen in the range of institutional responses to the condi-tion of globalization. Part of this adaptive capacity consists in the ability of thepolitical system to project and adopt credible reforms, wherever needed. Andwe are also interested in the role to be played by supra-national organizationsand/or regimes in strategies of governance.

Following our core interest in institutional adaptation, this report offers analy-ses of seven key sectors. A very brief signal pointing to the insights and/orrecommendations to be found in the papers in this volume is given along withthis list of the sectors selected for analysis:

Immigration. Philip Martin and Susan Martin demonstrate that nationalconceptions of immigration differ significantly, but in each case the rhetoricof debate requires moderation. Thomas Bauer and Klaus Zimmermanncall for greater attention to high-skilled immigrants—among this group “virtualimmigration” via telecommuting may come to play a much greater role as asubstitute for moving, thus confounding conventional concerns.

Labor markets. So far, a coalition of political forces supporting furtherintegration in world markets has eluded American politicians and one of thereasons may be that the gains from trade are actually smaller thanconventional wisdom believes, argues John Schmitt. To Reiner Hoffmann anational solution to unemployment does not seem likely in Germany; the EUwill play a decisive role, but reform should strive for re- rather than de-regulation.

Education. Mitchell Ash and Daniel Fallon argue that, overall, the twocountries face common problems and will share a similar future thatnevertheless permits cultural differences. Germany is entering the era ofmass higher education, a stage achieved in the United States in 1968.Germany’s challenge consists in differentiating both the structure andfinancing of its institutions of higher education. America’s lies in acceptingsome international standardization of credentials and curricula.Innovation. David Audretsch and Maryann Feldman point out that the

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transatlantic economic debate mistakenly suggests a trade-off between jobsand welfare. There is a third option that combines German traditions ofknow-how and skills acquisition with American institutions facilitatingcommercialization of knowledge through entrepreneurship.

Welfare institutions. Because the trend toward increased international marketintegration is reversible, Elmar Rieger implies that social programs shouldbe evaluated in terms of the support they generate for this process. Germanyhas done better here. But Germany and America remain divided on theethos of labor markets as well as the scope of entitlements, factors that,when taken together, go a long way toward explaining the paralysis indiscussions addressing needed social policy reform in Germany.

Taxation. There is disagreement over whether tax bases in all importantrevenue categories are becoming more mobile. Gary Hufbauer thinks theyare and foresees that neither technical fixes nor international cooperation(even within the EU) will affect this trend. Tax systems will be redesignedto attract mobile firms that provide good jobs and financing public pensionsystems will become increasingly difficult. Ullrich Heilemann and HansDietrich von Loeffelholz see little change in Germany’s tax structure that isattributable to globalization, but agree with Hufbauer that provision of publicgoods must be factored in. They part company again in the high value theyattach to such goods as skilled labor, local amenities and social peace.

Infrastructure. Rudolf Petersen’s paper is a critical assessment of the trendhe identifies toward increasing globally oriented infrastructure. From theperspective of resource economics, policies that encourage it are misguided.He emphasizes pathological synergies between the components ofinfrastructure created by the advent of global information technology.Petersen welcomes the increased attention devoted to such resource issuesin a global perspective by the new “Red/Green” German government. Froman American perspective, Henry Michel approaches the same topic with anentirely different mood. He fully embraces the “globalization game” andidentifies the infrastructure deficits that must be addressed in order to playthat game well.

A joint and multidisciplinary team. The German and American participantsin this project were trained in economics, political science, law, and engineering.Whatever their academic training, one characteristic of the group is the seasoningthat comes from significant experience in policy settings. I meant to exploit this

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resource and this mix of qualifications comprises an essential strength of thesurvey. Project participants were charged with producing interpretive essaysthat considered their subjects broadly. As a result, the reader will not find typicallyacademic studies in this volume. Participants drew upon the insights of theirdisciplines, but often ventured further in making sense of globalization in theirassigned sectors. No attempt was made to impose a single definition ofglobalization on the team. The approach was rather to encourage each author totell us what globalization means as he or she worked through his/her sector.

In addition to the Fritz Thyssen Foundation, Responses to Globalization inGermany and the United States also received support from the GermanMarshall Fund of the United States, Lufthansa Airlines, and the German Programfor Transatlantic Relations. AICGS is grateful to each of them for their help inrealizing this project.

Carl Lankowski November 1999Research Director

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A B O U T T H E A U T H O R S

Mitchell Ash is professor of Modern History at the University of Vienna,Austria. He is the editor of German Universities Past and Future: Crisis orRenewal? (Berghahn Books, 1997), the first volume in the AICGS series,“Policies and Institutions: Germany, Europe and Transatlantic Relations.”

David B. Audretsch is the Ameritech Chair of Economic Development anddirector of the Institute for Development Strategies at Indiana University. Beforecoming to Indiana University, he was research professor at the Science Centerfor Social Research, Berlin. He is founder and editor of Small BusinessEconomics: An International Journal.

Thomas Bauer studied economics at the University of Munich and received hisdoctorate in 1997. From 1997-1998 he visited Rutgers University under theauspices of a Feodor Lynen Fellowship of the Alexander von HumboldtFoundation. In September 1998 he joined the Institute for the Study of Labor(IZA) in Bonn as senior research associate.

Daniel Fallon is professor of Public Affairs and professor of Psychology at theUniversity of Maryland, College Park. He is the author of numerous articles onhigher education and comparative higher education, including The GermanUniversity: A Heroic Ideal in Conflict with the Modern World (ColoradoAssociated Universities Press, 1980).

Maryann P. Feldman is a research scientist at the Institute for Policy Studiesat the Johns Hopkins University, where her primary focus is technological changeand economic development. She has served as a consultant to local, state andfederal government as well as private industry.

Ullrich Heilemann is the vice-president of the Rhenish-Westphalian Institutefor Economic Research (RWI) in Essen, Germany. He is also professor ofEconomics at the University of Duisburg.

Reiner Hoffmann is the director of the European Trade Union Institute, theresearch division of the European Trade Union Confederation, Brussels. Beforecoming to ETUI, Mr. Hoffmann worked for the Economic and Social Committee(ECOSOC) of the European Community.

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Gary Hufbauer resumed his position as Reginald Jones Senior Fellow at theInstitute for International Economics in September 1998, a position he heldbetween 1992 and 1997. From June 1997 until September 1998, he was theMaurice R. Greenberg Chair and Director of Studies at the Council on ForeignRelations in New York. Before joining the Institute for International Economics,he was the Marcus Wallenberg Professor of International Financial Diplomacyat Georgetown University.

Philip Martin is professor of Agricultural and Resource Economics at theUniversity of California-Davis and chair of the University of California’sComparative Immigration and Integration Program. He also co-chairs MigrationDialogue, a not-for-profit organization dedicated to providing timely andnonpartisan migration analysis.

Susan Martin is director of the Institute for the Study of International Migrationat Georgetown University. She served as executive director of the U.S.Commission on Immigration Reform and director of Policy Research andPrograms at the Refugee Policy Group. She has taught at Brandeis Universityand the University of Pennsylvania.

Henry Michel, a retired engineer, is chairman emeritus of ParsonsBrinckerhoff, Inc. He was recently honored with one of engineering’s mostdistinguished commendations, Honorary Membership in the American Society ofCivil Engineers. Michel is also a senior lecturer at the Massachusetts Institute ofTechnology and an industry professor at New York Polytechnic University.

Rudolf Petersen heads the Transportation Division at the Wuppertal Institutefor Climate, Environment and Energy. Dr. Petersen has participated in studies onthe environmental aspects of passenger and freight transportation and thereduction of urban air pollution. He is also a lecturer on the environmental effectsof combustion engines at the University of Essen.

Elmar Rieger is presently working as a research professor at the Center forSocial Policy at the University of Bremen. Prior to this appointment, Dr. Riegerwas John F. Kennedy Fellow at Harvard University. His main areas of interestare comparative and historical welfare state research, European integration andagriculture. He recently finished an evaluation of the proposals of the EuropeanCommission for reforming the Common Agricultural Policy.

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John Schmitt is a labor economist at the Economic Policy Institute, Washington.Dr. Schmitt has written extensively on inequality, unemployment and theminimum wage and is a co-author of The State of Working America 1998-99(Cornell University Press, 1998).

Hans Dietrich von Loeffelholz is head of the Public Economics Division of theRhenish-Westphalian Institute for Economic Research (RWI) in Essen,Germany. He is also visiting professor at the Ohio Wesleyan University (OWU),Delaware, Ohio, and adjunct professor of public economics at the Universities ofBochum and Dortmund.

Klaus Zimmermann is the newly appointed director of the German Institute forEconomic Research (DIW) in Berlin. He also serves as director of the Institutefor the Study of Labor (IZA) in Bonn and as co-director of the Labor EconomicsProgram of the Center for Economic Policy Research (CEPR) in London and isa professor of Economics at the University of Bonn.

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THE POLITICS OF GLOBALIZATION IN GERMANY AND THEUNITED STATES: U.S. IMMIGRATION POLICY

Philip Martin and Susan Martin

INTRODUCTION

Immigration policies are the mix of international, national and local rulesand programs that aim to facilitate the admission and integration of someforeigners and prevent the entry and stay of others. This paper examines U.S.policies on legal immigration, refugees and asylum seekers, and unauthorizedmigration to highlight similarities and differences in the migration challengefacing the industrial democracies.

There is dissatisfaction with immigration and integration policies in bothGermany and the U.S. Immigration and integration issues were second only tounemployment among the domestic issues debated in the 1998 Germanelections, and immigration and integration issues have been contentious instates such as California, which approved Propositions 187 (illegalimmigration) in 1994 and 227 (bilingual education) in 1998.

About 7.3 million foreigners lived in Germany in 1998, making foreignersabout 9 percent of the German population. By comparison, the U.S. had about27 million or 10 percent foreign-born residents. If current trends continue, theforeign/foreign-born share of residents is expected to rise in both Germany andthe U.S. in the 21st century, to 17 percent in Germany and 15 percent in the U.S.by 2030.

On a normal day, some 70,000 foreigners arrive in the United States. Mostare welcomed at airports and borders: over 60,000 are nonimmigrants whocome to the U.S. as tourists, business visitors, students, and foreign workers.Another 2,500 arrivals are immigrants and refugees, persons that the U.S. hasinvited to join American society as permanent residents. Finally, there are about5,000 unauthorized aliens. About 4,000 are apprehended every day, most alongthe U.S.-Mexican border just after entry, but at least 1,000 elude detection at theborder, or slip from legal to unlawful status after legal entry, as when a touristgoes to work.

The United States is a nation of immigrants. Under the motto “e pluribusunum,” from many one, U.S. presidents frequently remind Americans that theyshare a common experience: they or their forebears left another country to beginanew in the U.S. Immigration permits immigrants to better themselves andstrengthens the U.S., which is why the U.S. Commission on ImmigrationReform spoke for most Americans when it asserted in 1997 that “a properly

Responses to Globalization in Germany and the United States: Seven Sectors Compared

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regulated system of legal immigration is in the national interest of the UnitedStates.”

Despite the generally rosy view of America as a land of immigrants, thearrival each day of the equivalent of a small city has become a contentiouspolicy reflecting basic ambivalence about current immigration. Oftenforgetting how contentious immigration was when their ancestors arrived in theU.S., Americans fear that the country has lost its absorptive capacity.

Immigration often becomes an issue in which the loudest voices sometimescome from the extremes of “no immigrants” and “no borders.” For example, theFederation for American Immigration Reform (FAIR) calls for a five-year stopto “mass immigration” so that, during the pause, recent arrivals and Americanswould have time to adjust to each other. At the other extreme, the Wall StreetJournal advocates a five-word constitutional amendment: “there shall be openborders.” The editorials of the leading U.S. business paper advocate high levelsof immigration chiefly for economic reasons, while ethnic and religiousorganizations advocate more immigration for other reasons.

There are middle-of-the-road remedies for immigration problems. Weargue that a better understanding of the facts promotes fine-tuning rather thanradical changes in immigration policy. Toward that aim, this paper first sets outthe global contexts in which decisions on U.S. immigration policy are taken,and it then outlines specific issues to be considered in six principal areas: legalimmigration, including permanent and temporary admissions; refugee andasylum policy; unauthorized migration; integration of immigration; the federalimmigration system; and relations with source countries of immigration.

GLOBAL CONTEXTS

Three global trends have particular importance for decision-making onimmigration matters: growing economic integration and globalization;changing geo-political interests in the post-Cold War era; and increasingtransnationalism as migrants are able to live effectively in two or more countriesat the same time.

Economic trends influence both legal and illegal migration patterns. Forexample, growth in multinational corporations puts pressure on governments tofacilitate the inter-country movements of personnel. At the same time, and in amuch more disturbing trend, alien smuggling has emerged as a multinationalcorporate activity that reaps an estimated gain of $5-7 billion per year. Suchregional and international trade regimes as NAFTA and the General Agreementon Trade and Services (GATS) also affect migration trends, permitting freermovement of persons providing international services from signatory countries.


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Further, the development of new technologies facilitate both virtual and actualmigration of people, ideas and work and, at least in the information technologyfield, creates a seemingly insatiable demand for infusion of foreignprofessionals with state-of-the-art skills.

The post-Cold War era also presents new opportunities as well as newchallenges for migration regimes, particularly regarding refugee movements.While many refugee situations have been resolved as Cold War inspiredconflicts came to an end, thereby permitting large-scale repatriation, rabidnationalism and government collapse continue to cause massive flight. At thesame time, the principles of asylum and non-refoulement (non-return to placesof persecution) appear to be under growing attack in Europe and NorthAmerica.

The third trend affecting migration policies is transnationalism. Partlybecause of the technological revolution discussed above, migrants can far moreeasily today live in two societies at the same time, maintaining contacts withtheir home communities very inexpensively. Perhaps the most visible aspect oftransnationalism is the growing acceptance of dual nationality. Money flowbetween immigrants and those who remain at home is another important aspect.Remittances often exceed any other form of trade, investment or foreign aidavailable to the source countries of migrants.

Given these significant economic, social and foreign policy trends, the U.S.and other nations face new challenges and must begin to think more creativelyabout their migration policies. In the following sections, we set out the majorU.S. policy issues in need of such attention.

PERMANENT IMMIGRATION

The United States admits about 900,000 legal immigrants each year, upfrom about 600,000 per year in the 1980s (not counting those legalized underthe 1986 amnesty), 450,000 per year in the 1970s, and 330,000 per year in the1960s. As immigration was increasing, the major countries of origin changed,from Europe to Latin America and Asia.

Immigrants are persons who are entitled to live and work permanently in theU.S. and, after five years, to become naturalized U.S. citizens. The fourprincipal bases or doors for admission are family reunification, skills, diversity,and humanitarian interests. By far the largest admissions door is for relatives ofU.S. residents; in 1996, two-thirds of the 916,000 immigrants were grantedentry because family members already resident in the U.S. formally petitionedthe U.S. government to admit them. The second-largest category of immigrantsin 1996 was humanitarian: 14 percent of the immigrants were refugees and


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asylees (see below for further discussion). The third group, about 13 percent,were immigrants and their family members admitted for economic oremployment reasons; the U.S. in 1990 raised the annual quota on immigrantsadmitted for economic reasons. Finally, the fourth door admitted diversityimmigrants; 6 percent of the flow were foreigners from countries that have notrecently sent large numbers of immigrants to the U.S.

America continues to celebrate its immigrant heritage, with massnaturalization ceremonies on July 4, the annual celebration of U.S.independence, associating immigration with the founding of the United States.More practical benefits of immigration are argued as well:

• Immigrants contribute to the economic well-being of the U.S. throughtheir skills, hard work, entrepreneurial instincts, social security taxpayments, and/or willingness to take jobs unwanted by Americans.

• Immigrants invigorate the social and cultural life of the country, aswitnessed by the diverse cuisine, literature, music, dance, and other artforms brought by newcomers.

• Immigrants are a constant reminder to natives of what is special about theU.S. as a country that attracts so many foreigners.

• Immigrants renew city neighborhoods that have often fallen upon badtimes, creating new businesses, buying homes, and promoting communitycooperation.

• Immigration strengthens U.S. economic and political ties with othernations and our ability to compete in a global economy and provideinternational leadership.

Of course, immigration is not without its detractors, who make one or moreof the following arguments:

• Immigration adds to U.S. population growth and, therefore, toenvironmental and related problems.

• Immigrants depress wages and working conditions, especially hurtingunskilled U.S. workers, including previously arrived immigrants who caneasily be displaced by new immigrants willing to work at lower wages.


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• Immigrant workers willing to work at low wages can slow themodernization and globalization of the U.S. economy.

• Some immigrants want public support to retain their language and culture,provoking concerns that programs—such as bilingual schooling andpreferences for minorities—contribute to the “dis-uniting” of America.

While the debate about overall admissions is often framed in pro- and anti-immigration terms, the reality is different. Immigration can be more effectivelyseen as a series of trade-offs between competing goods. For example, it is oftenargued that large-scale immigration is necessary to “save” social securitysystems in the industrial countries. Immigration can play a role in increasingsocial security revenues by adding more taxpayers than beneficiaries, but muchhigher levels of immigration would be needed to make a difference in thedemography of the country. Yet, if the composition of the immigrant flowremains unchanged, and many more unskilled immigrants enter, immigrationmay make it harder for some disadvantaged U.S. workers, including theimmigrants already in the U.S., to climb the job ladder. In this case, thecompeting goods are high levels of benefits for retired persons who are livinglonger, versus the competing good of restricting immigration to protectespecially low wage workers. Deciding how to weigh the competing goods ofbenefits for retirees and protecting U.S. workers can be a contentious issue.

Many of those concerned about immigration are more concerned about thecomposition of the flow than the number of immigrants. During the past twentyyears, there have been persistent calls for a shifting of admission numbers fromfamily categories, under which many immigrants with less than a high schooleducation enter, to skills-based ones that attract more highly educatedimmigrants. In particular, reformists propose limiting immigration to nuclearfamily only.1 Proponents of extended family migration counter that admissionof extended family serves not only humanitarian purposes but economic ones aswell. Extended families often work or live together, strengthening thehousehold economy of members who would otherwise live in poverty.

In the U.S., most of the immigrants admitted for economic reasons arechosen by U.S. employers. There are some clear advantages to such a system.Not surprisingly, rates of employment among these immigrants are very highsince they already have jobs and, generally, a supportive employer. It is alsoargued that employers are the best judge of the economic contributions anindividual can make. A checklist, as used in a point system, may identifywould-be migrants with academic skills, but these individuals may not have the


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more difficult to measure capabilities, such as an ability to work in teams, thatemployers find valuable.

To hire a foreign worker as a permanent resident, the employer mustundertake a recruitment process that meets Department of Labor (DOL)guidelines and demonstrate that no minimally qualified U.S. worker isavailable. The process normally requires an attorney’s help, and the wait forapproval can be several years, first at DOL and then at the Immigration andNaturalization Service (INS). Employers and immigrants are frustrated by thedelays, and tend to use temporary visa categories to bridge the gap between thedecision to hire the worker and the government’s grant of permanent residentstatus. As a result, the recruitment process is often a farce, the employer havingalready hired the foreign worker. Hence, the current system serves the needs ofneither employer nor the domestic U.S. work force.

A federal Commission on Immigration Reform (CIR) proposed a trade-off:employers could more quickly and easily hire the immigrants they wanted ifthey paid a substantial ($10,000) fee to a fund that would provide scholarshipsfor U.S. workers willing to be trained to fill the jobs going to foreigners. CIRargued that market forces would be a better determinant than the unwieldybureaucratic process of a business’ need for the foreign worker.

TEMPORARY WORKERS

Temporary work categories are increasingly important as the vehicle foradmission of foreign workers, particularly professionals, executives andmanagers. Each year, almost 300,000 visas are issued to temporary workers andtheir family members. In addition, an unknown number of foreign students areemployed either in addition to their studies or immediately thereafter inpractical training.

The growth in the number of foreign professionals admitted for temporarystays reflects some of the global economic trends discussed above. In fastchanging industries, such as information technology, having access to a globallabor market of skilled professionals is highly attractive. Also, as companiescontract out work, or hire contingent labor to work on specific projects, theappeal of temporary visas rather than permanent admissions is clear. Someforeign firms, understanding that it may not be possible to undertake an entireproject off-shore, obtain temporary work visas to the U.S. so their employeescan complete the job at the U.S. client’s facilities. The temporary programs alsogive employers and employees a chance to test each other before committing topermanent employment. Multinational corporations find the temporary


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categories useful in bringing their own foreign personnel to work or receivetraining in the U.S.

As with other immigration matters, there are trade-offs in using temporaryadmission categories. While they may help increase business productivity andeven generate job growth, they also render the foreign workers more vulnerableto exploitation and may, thereby, depress wages and undermine workingconditions for U.S. workers. Generally, the foreign worker is tied to a specificemployer who has requested the visa. Loss of employment may also mean thethreat of deportation. Moreover, because the temporary visa is so often a testingperiod, the foreign professional may put up with any conditions imposed by theemployer, fearing loss otherwise of the chance at permanent resident status.

The trade-offs are even more apparent with regard to admission of unskilledworkers. There have been persistent calls for a large-scale guest-workerprogram to meet the seasonal needs of U.S. perishable crop agriculture, whichis now heavily reliant on unauthorized workers. Consumers want to pay lowprices for fruits and vegetables, and they also want farm workers to have decentwages and working conditions.

Are the savings on fresh produce due to immigration worthwhile?Immigrant farm workers earning low wages by U.S. standards are nonethelessbetter off in the U.S. than at home. Over time, though, their point of comparisonis the U.S. standard of living, not what they left in their home country. U.S.farmers are also better off now, enjoying higher profits and therefore higherland prices. But, with ready availability of cheap labor, farmers may berefraining from investing in technology that might reduce still further the costsof produce. The critical issues are which of the two goods is more valuable—cheaper food or higher farm wages—and what time frame should be used inassessing impacts—today or some time in the future. The way these questionsare answered is a major determinant of U.S. immigration policy, especially withrespect to Mexico.

REFUGEES AND ASYLESS

The United States remains one of the major countries offering permanentresettlement to refugees in third countries as well as asylum to those arrivingdirectly. The number of refugees resettled in the U.S. varies each year,determined annually by the president in consultation with Congress. For FY99,for example, the president has authorized admission of up to 78,000 refugees:48,000 from Europe, divided almost evenly between nationals of the formerYugoslavia and the former Soviet Union; 12,000 from Africa; 9,000 from eastAsia; 4,000 from the near east/south Asia; 3,000 from Latin America/


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Caribbean; and 2,000 geographically unallocated. Actual admissions in FY98numbered 76,786, with ex-Yugoslavs and ex-Soviets representing about 70percent of entries.

In the U.S., asylum applicants may apply directly to the INS (calledaffirmative applications) or during a removal hearing in immigration courtwhen apprehended at a port of entry or in the interior of the U.S. (calleddefensive applications). In the case of affirmative cases, INS may grant asylumor refer the case to an immigration judge for further adjudication. Althoughthere are no limits on the number of persons who can obtain asylum (with theexception of those applying under a special program for Chinese protestingChina’s coercive population control policies), the U.S. permits a maximum of10,000 asylees to adjust to permanent residents each year.

In FY97, the latest year for which complete statistics are available, about50,000 asylum cases were filed with INS as affirmative cases. These new casescame on top of a pending caseload of more than 450,000 cases. About 20percent of the cases that reached final decisions in FY97 were approved by INS.In total, INS granted asylum in slightly more than 10,000 cases, representingalmost 16,000 individuals.

During the same period, the immigration court received almost 84,000cases. The majority (75,000) were referred by the INS asylum office, with amuch smaller number applying as a result of apprehension. The immigrationcourt approved about 30 percent of all of the cases in which it made a finaldetermination on the merits.

Admission of refugees and asylees is governed by the Refugee Act of 1980,as amended. The Refugee Act had three principal aims: 1) to place U.S. policymore firmly in compliance with international standards for protecting refugees,in part by dropping the Cold War-driven definition of a refugee as someonefleeing a communist state; 2) to institute permanent mechanisms for makingresettlement and asylum decision, rather than maintain reliance on ad hocstatutory and discretionary processes; and 3) to establish rules regarding theeligibility of refugees for assistance and the reimbursement to be afforded statesand private agencies for services provided to refugees.

Despite the statutory changes to de-link refugee decisions from ideology,even after the fall of the Soviet Union and the collapse of communism in mostparts of the world, U.S. refugee admissions continued to reflect Cold Warpriorities. Until very recently, more than 80 percent of refugees admitted to theU.S. came via orderly departure programs directly from Indochina or the formerSoviet Union. Only a very few slots were available for refugees referred forresettlement by the United Nations High Commissioner for Refugees(UNHCR).


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The asylum system, in particular, came under increasing criticism for theseeming ideological basis for decisions to grant asylum, with the U.S.government appearing to grant refugee status readily to Nicaraguan asylumseekers and denying refugee status to El Salvadorans and Guatemalans.2 Themigration of many Central Americans to the U.S. in the late 1980s produced anasylum crisis, which was eventually “resolved” by having the U.S. governmentagree to re-examine rejected asylum applications filed by Salvadorans andGuatemalans, and to permit those who did not file because of the low approvalrates to apply for the first time. In addition, an Asylum Officer Corps wasestablished in April 1991, so that independent trained adjudicators within INSwould hear asylum claims. Mounting backlogs of cases and concerns aboutfraudulent applications led to further reform in 1995, particularly a streamliningof processing to permit new cases to be heard within six months. The reformswere implemented on a “last-in, first-out” basis in order to send a clear messagethat strong cases would be quickly approved but abusive ones would be asquickly rejected. As a result, the cases in the backlog remained withoutadjudication.

Most of the 400,000 Central Americans caught in the U.S. asylum system—neither accepted nor rejected—had by then been in the U.S. for a decade ormore. Many had been granted various statuses that permitted them to remain inthe U.S. during the conflicts in their countries. These temporary, ad hocstatuses were extended after peace came to their countries, largely because theirremittances were so important to the economic recovery of their homelands.

For many years, however, no steps were taken to regularize their status inthe U.S. despite a clear unwillingness to remove them. Experience shows that,in the U.S. case, failure to make hard decisions at one point in time simplyrequires even harder decisions later. By the time the U.S. decided to endtemporary protection for Central Americans, many had been in the U.S. formore than a decade and had U.S.-born citizen children, U.S. employers, andother ties to the U.S. that made it difficult to promote repatriation.

It was not until 1998 that the Nicaraguan Adjustment and Central AmericanRelief Act (NACARA) was enacted to give many of the Central Americans theopportunity to become permanent residents. NACARA, originally introducedas the Victims of Communism Act, reflected the long-standing ideologicalstrains of U.S. policy. Under NACARA, about 150,000 Nicaraguans and 5,000Cubans who arrived in the United States by December 1, 1995 were granted fullamnesty. By contrast, the estimated 200,000 Salvadorans and 50,000Guatemalans covered by NACARA had to demonstrate that it would be anextreme hardship if they were forced to return home.


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UNAUTHORIZED MIGRATION

In October 1996, there were an estimated five million illegal aliens who hadestablished long-term residence in the United States, and their number wasgrowing by 275,000 a year. About 60 percent of the unauthorized migrants inthe U.S. were believed to have slipped across the Mexico-U.S. border, enteringthe United States without inspection. The other 40 percent entered the UnitedStates legally, often as tourists, and then violated the terms of their entry bystaying too long or working in the United States. In addition, about one to twomillion migrants enter and often work illegally during the course of any year,but do not establish long-term residence.

These data suggest that over 2 percent of U.S. residents are unauthorizedmigrants, but they are concentrated in a few states. Some two million of theunauthorized foreigners in 1996 were in California (40 percent, making 6percent of California residents unauthorized), followed by 700,000 in Texas (14percent), 540,000 in New York (11 percent), 350,000 in Florida (7 percent),290,000 in Illinois (6 percent), and 135,000 in New Jersey (3 percent). The INSestimated that there were about 2.7 million unauthorized Mexicans in the U.S.,followed by 335,000 El Salvadorans, 165,000 Guatemalans, and 120,000Canadians; there were an estimated 70,000 illegal Poles.

The U.S. has tried a number of measures to reduce illegal immigration, buthas not yet found an effective formula for reducing unauthorized entry andemployment. Two extremes mark the ends of the control spectrum. At the oneend are so-called island strategies, in which control efforts are focused onborders and ports of entry, and there is little enforcement inside the country. Atthe other extreme are the continental strategies that evolved in Western Europe,in which border controls are buttressed by internal residence and work permitsystems.

The U.S. abandoned the pure island model in 1986, when the ImmigrationReform and Control Act for the first time made it unlawful for U.S. employersto knowingly hire illegal foreign workers. Employer sanctions did not deterillegal entries and employment, primarily because the INS was slow to establisheffective strategies and assign inspectors to enforce them, and becauseunauthorized workers found it easy to purchase false documents to present toemployers and thus satisfy the letter of the law.

External controls still dominate. The INS has a budget of $3.8 billion forFY99, which supports 29,000 employees, of whom two-thirds work inenforcement, including almost 9,000 as Border Patrol agents. Most INSenforcement efforts are aimed at deterring illegal entries along the Mexico-U.S.border. Beginning with Operation Hold the Line in El Paso in 1993, the INS has


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moved agents to the border, and used their presence, plus lights and fences, todeter illegal entries, rather than to apprehend those who enter the U.S.

It is very hard to evaluate the effectiveness of the four INS intensive bordercontrol operations—Gatekeeper in California, Safeguard in Arizona, Hold theLine in west Texas, and Rio Grande in east Texas. Early evaluations in El Pasoconcluded that the unauthorized entrants most likely to cause local problemswere deterred, including street merchants, teens and car thieves, but thatmigrants headed toward the interior of the U.S. simply went around the placeswith intensive controls. It is clear that the cost of entering the U.S. illegally hasincreased; smugglers fees have risen from $300 to $500 to $600 to over $1,000,but it is not clear that migrants intent on illegal entry have been deterred.However, in a particularly unfortunately consequence of the new strategy, moremigrants attempting entry are dying after being abandoned by smugglers in thedesert.

The U.S. and Mexico have greatly increased their cooperation to reducecrime in border areas, to discourage the transit through Mexico of non-Mexicans attempting to illegally enter the U.S., and to better understand thedynamics and characteristics of Mexicans in the U.S. Mexico has specializedpolice forces, including Grupo Alpha and Beta, that aim to reduce crime againstmigrants waiting to illegally enter the U.S., but they also can detect and reporton third country nationals attempting entry into the U.S. In Summer 1998, theU.S. and Mexico cooperated on a public affairs campaign that warned of thedangers of attempting illegal entry through the desert.

CONCLUSION

As this review has shown, making durable immigration policies is difficultbecause immigration involves trade-offs between competing rights or goods,but immigration debates are often conducted in starkly absolute terms.Positions are characterized as pro-immigration or anti-immigration with littleconsideration to nuance. Moreover, the debate is marked too often byexaggerated claims that make it hard to win broad public support for anysensible immigration policies.

There are clear similarities and differences between the U.S. and Germanyin how each country assesses the trade-offs. Clearly, national conceptions ofimmigration differ significantly. Immigration is an integral part of U.S. historyand culture. Even with concerns about today’s immigrants, most Americanswould agree that immigration overall has been in the national interest of theUnited States. The U.S. debate tends to be about how many and whichimmigrants, not whether to have immigration. By contrast, and despite similar


12

proportions of foreign born populations, Germany does not see itself as acountry of immigration and still debates whether to admit immigrants.

These differences are clear in the statements of national leaders:

• SPD Interior Minster Otto Schily, in December 1998: Germany has“reached the limits, the point where we have to say we cannot bear anymore. The majority of Germans agree with me: Zero immigration for now.The burden has become too great. I would not even dare publish the coststhat stem from immigration. The Greens say we should take 200,000 moreimmigrants a year. But I say to them, show me the village, the town, theregion that would take them. There are no such places.”

• President Clinton in June 1998: “I believe new immigrants are good forAmerica. They are revitalizing our cities. They are building our neweconomy. They are strengthening our ties to the global economy, just asearlier waves of immigrants settled the new frontier and powered theIndustrial Revolution. They are energizing our culture and broadening ourvision of the world. They are renewing our most basic values andreminding us all of what it truly means to be an American. [Americans]share a responsibility to welcome new immigrants, to ensure that theystrengthen our nation, to give them their chance at the brass ring.”

Despite these differences in approach, both countries find themselvesdealing with global trends that have brought large-scale migration to theirshores. Both countries are also constrained by their democratic systems andconstitutional principles in the choice of ways to regulate and control thismigration. Hence, even with their different conceptions about immigration,they have much to share in terms of specific policies, practices andadministrative structures. Even more, both countries would benefit from a morenuanced policy debate that permits full discussion of the trade-offs inherent inimmigration as well as the global contexts in which 21st century immigrationpolicies will be made.

BIBLIOGRAPHY

Castles, Stephen and Mark Miller. 1998. The Age of Migration. New York: GuilfordPress.

Cornelius, Wayne A., Philip L. Martin and James F. Hollifield. Eds. 1994. ControllingImmigration: A Global Perspective. Stanford, CA: Stanford University Press.


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Fuchs, Lawrence H. 1990. The American Kaleidoscope: Race, Ethnicity and the CivicCulture. Hanover, NH: Wesleyan University Press of New England.

Isbister, John. 1996. The Immigration Debate: Remaking America. West Hartford, CT:Kumarian Press.

Migration News. Monthly since 1994. Summary of the most important world wideimmigration and integration developments of the preceding month:[email protected] or http://migration.ucdavis.edu.

Portes, Alejandro and Ruben G. Rumbaut. 1996. Immigrant America: A Portrait.Berkeley: University of California Press.

Smith, James and Barry Edmonston. Eds. 1997. The New Americans: Economic,Demographic, and Fiscal Effects of Immigration. Washington: National ResearchCouncil.

U.S. Commission on Immigration Reform. 1997. Becoming an American: Immigrationand Immigrant Policy. Washington: U.S. Commission on Immigration Reform.

ENDNOTES

1 Others agree that the extended family categories should be curtailed but they argue fortheir transfer to nuclear family categories that are heavily backlogged. Currently,spouses and minor children of legal immigrants must wait at least forty-two years foradmission as permanent residents.2 In actuality, most Nicaraguans were also denied asylum, but the INS often did notrecord the denials in order to postpone making a decision on removal.

Responses to Globalization in Germany and the Unite States: Seven Sectors Compared

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Thomas Bauer and Klaus F. Zimmermann

15

IMMIGRATION POLICY IN INTEGRATEDNATIONAL ECONOMIES

Thomas Bauer and Klaus F. Zimmermann1

INTRODUCTION

The current debate on the growth of the global economy has mainly dealtwith the increased trade flows in the 1980s and 1990s induced by globalreductions of trade barriers, the rapid transmission of technology acrosscountries and highly mobile capital. A growing literature analyzes variousaspects of the effects of integrated economies, i.e., the effects of globalizationon welfare, the labor market and inequality. (See for example the 1995symposium on “Income Inequality and Trade” and the 1998 symposium on“Globalization in Perspective” in the Journal of Economic Perspectives.)However, the question of increased mobility of labor has been widely neglectedin the debate on integration in the world economies. Migration is an essentialpart of globalization.

Comparable to increased world trade flows, OECD countries experiencedrising immigration flows in the 1980s and the beginning of the 1990s. However,since then the immigration numbers have been decreasing. Figure 1 indicatesthis development for selected OECD countries. In all countries immigrationincreased strongly in the late 1980s up to about 1993. Then the growth inimmigration stopped and almost all countries exhibit a negative trend inimmigration flows. Given these numbers and the growing discussion about theeconomic effects of globalization, several questions arise. Is there a linkbetween the increased international mobility of goods, technology, and capital,and the development in international migration? Are there similarities in theeconomic effects of globalization and labor migration? Can we trace recentchanges in immigration policy to the economic effects of globalization?

In the following section we discuss theoretical and empirical investigationsof the link between the growth of the global economy and the mobility of labor,and provide an account of the labor market effects of globalization and theimmigration of labor. In the third section we analyze German immigrationpolicy in the last decade with a special reference to the concerns of the mostimportant German political parties. In the final section we discuss animmigration policy that seems necessary to deal with the economic effects of aglobalized economy.


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GLOBALIZATION AND THE MIGRATION OF LABOR

The Effects of Integration on Labor MigrationThe development of increasingly integrated economies is largely

characterized by the reduction of global trade barriers resulting in increasedtrade of commodities, high capital mobility, the transmission of technologyacross countries, and the development of multinational firms which canproduce and hire labor almost all over the world. In the following, we discussthe theoretical links between these developments and labor migration andsurvey the existing empirical evidence on the relationship between trade andmigration.

According to the standard trade model, trade is a substitute for internationalmigration. According to the Heckscher-Ohlin model of factor priceequalization, the removal of trade barriers leads to country specialization inproducing the goods for which countries have a relatively abundant supply ofinput factors and thus have a comparative cost advantage. Assume twocountries, a developed country with relatively many skilled workers, and adeveloping country with relatively many unskilled workers. Assume furtherthat there are two goods, one that is produced by skilled workers and one that isproduced by unskilled workers. Producers in both countries have the sametechnology. In this setting trade is determined by the factor endowments of thetwo countries: the developed (developing) country will import the good that isproduced by unskilled (skilled) workers and specialize in the production of thegood produced by skilled (unskilled) workers. Trade between these twocountries will reduce the wages of unskilled workers in the developed countryand increase the wages of skilled workers, and vice versa for the developingcountry. In the long run and under specific assumptions (see Bhagwati andDehejia (1994) and Martin and Taylor (1996) for a discussion of theseassumptions) factor prices for skilled and unskilled workers across the twocountries are equalized. In general, the basic trade model states that trade or themobility of production factors between countries will result in equalized factorprices. However, if factor prices are equalized, the incentive to migratedisappears and trade can be seen as a substitute for international migration.

The empirical evidence regarding factor price equalization and thesubstitutional relationship between labor migration and trade is not as clear asit appears in the theoretical model. (See Schiff (1996) for a discussion of thestandard trade model and the question whether there is a substitutional orcomplementary relationship between trade and migration.) Several empiricalstudies have found that trade and migration are complements instead ofsubstitutes, at least in the short and medium run. (Rotte and Vogler (1998)


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provide a recent review). Two lines of argumentation have been broughtforward to explain these empirical results. First, our understanding of thedeterminants of international migration is far from being complete. (See Bauerand Zimmermann (1998) for a recent survey of theoretical and empiricalanalyses of migration.) The existing empirical evidence shows that expectedwage differentials have a significant effect whenever we observe largemigration flows between two countries. However, the reverse conclusion is notobvious, since we cannot observe large migration flows whenever huge wagedifferentials are present. Furthermore, theoretical models of migrationdecisions suggest that the desire to overcome capital constraints and incomerisks in less developed countries could lead to international migration flowseven in the absence of expected wage differentials (Stark, 1991).

Second, the assumptions underlying the factor price equalization theoremare questioned frequently and empirical studies on the effect of increased tradeon factor prices provide no clear picture of the relationship between increasingtrade and equalization of factor prices. (See Freeman (1995) for a recentsurvey.) One of the most restrictive assumptions is that developed and lessdeveloped countries have access to the same production technology. Politicalstability, the infrastructure, technological advantages, or scale economies canoffset the comparative advantage of developing countries in the production oflabor-intensive commodities. On the other hand, political instability and marketimperfections in developing countries can hinder factor price equalization andprovide additional migration incentives. Finally, as predicted by the basicmodel, trade liberalization creates new employment and higher earnings in thedeveloping countries, giving individuals and families the means to financemigration that they could not afford in the past. Furthermore, there is increasingevidence that, once individuals have migrated from a particular sending to aparticular receiving country, migration becomes a self-perpetuating process,because the costs and risks of migration are lowered by social and informationalnetworks (Bauer and Zimmermann, 1998; Massey, 1990). Finally, there areforces in the globalization process that could diminish the substitutionalrelationship between trade and migration. New informational technologies andtrade itself provides potential migrants with more and better informationconcerning the cost and potential benefits of migration. The availability ofbetter information reduces the risks and costs of migration and therefore fostersmigration.

Comparing the Economic Effects of Globalization and Labor MigrationIn the last two decades the development of labor markets in advanced

countries was marked by a declining demand for low-skilled workers. In the


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United States this development manifested itself in falling real wages of low-skilled workers and increased income inequality. Due to relatively inflexiblelabor markets, this development resulted in increased unemployment of low-skilled workers in Europe. Public debate on both sides of the Atlantic identifiesglobalization of the world economy and immigration pressure as two of themain sources of this development.

With respect to the globalization debate, the Heckscher-Ohlin model hasbeen used to explain the unfavorable development of the unskilled labor market.If developed countries import commodities from developing countriesproduced by unskilled labor and export commodities produced by skilled laborto these countries, the factor price equalization theorem predicts decreasingwages of unskilled and rising wages of skilled workers in the developedcountries. In the case of downward rigid wages, as in the European context,trade will lead to rising unemployment of unskilled workers and a shortage ofskilled workers. However, both explanations of the reduced demand forunskilled labor relative to skilled labor are qualitatively similar to the effects ofa skill-biased technological change, and, as we will see below, to the effects ofthe immigration of unskilled labor.

Empirical analyses of the effects of trade on the labor market essentiallyfollow two different approaches. (See Freeman (1995) for a detailed descriptionof these approaches and a discussion of their advantages and problems.) Oneapproach is to use data on the factor content of import and export industries toestimate the change in factor endowments which is due to trade. The empiricalevidence of these kind of studies is mixed (see Borjas, Freeman and Katz, 1992;Sachs and Shatz, 1992; and Wood, 1994, 1995). The second approach is to useprice data to explore whether increased imports from less-developed countriesreduce the price of goods produced by low-skilled workers in the developedcountries. If this is the case, the demand for unskilled labor in the developedcountries will fall and decrease their wages or increase their unemployment.The empirical results using this approach (see Freemann (1995) for a survey)suggest that trade has only a minor impact on the wages and employment ofunskilled workers.

The effect of trade on the German labor market has been investigated byLücke (1996), Haisken-DeNew and Zimmermann (1997) and Winter-Ebmerand Zimmermann (1998). Lücke (1996) cannot identify relevant effects of therelative price of unskilled-labor intensive goods on wages. Haisken-DeNew andZimmermann (1997) study wage and mobility effects of trade and migration.They find that wages are negatively affected by a relative increase in imports(relative to exports). Winter-Ebmer and Zimmermann (1998) find that tradedoes not affect wages at all, and hardly affects employment.


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Complicated economic processes determine whether one can expect gainsfrom immigration and which groups will receive them. Assuming aqualitatively homogeneous labor force, the standard competitive frameworkpredicts that immigration will increase the overall supply of labor. This shift canreadily increase total welfare, but also tends to drive down the wage rate. Underthe assumption that labor is heterogeneous, the key issue for the evaluation ofthe wage and employment effects of immigration on natives is whether foreignworkers are substitutes or complements to native workers. In general, one mightexpect that the higher the substitutability of foreign for domestic workers, themore likely an increase in immigration would cause a decline in the domesticlabor force’s wages.

More sophisticated theoretical models analyze the labor market effects ofimmigration with imperfect labor markets in the receiving countries (Brecherand Choudhri, 1987; Schmidt, Stilz, and Zimmermann, 1994; Bauer andZimmermann, 1997). In the case of minimum wages, which already causedunemployment in the receiving country, increased immigration may just widenthe gap between the minimum wage and what would have been the marketwage, leading to higher unemployment. Of particular importance in the Germancontext is the case where wages may not be downwardly flexible due to thebehavior of unions. In the theoretical model developed by Schmidt, Stilz andZimmermann (1994), which considers heterogeneous labor and downwardlyrigid wages due to the behavior of unions, the labor market effects ofimmigration depend on the reaction of the union and the degree to which skilledand unskilled labor are complements. In this model, immigration of unskilledlabor produces gains for skilled natives, but wages decline and unemploymentincreases for unskilled natives. To what extent natives benefit in the aggregatefrom unskilled immigration depends on the concrete situation, i.e., the reactionof the unions and the degree of complementarity between unskilled and skilledlabor. In the case of immigration of skilled labor, both wages andunemployment of natives will decline, and total income of natives will increase.

The existing empirical literature on the labor market effects of immigrationcould be differentiated into studies using simulation methods and those usingeconometrics. (See Bauer (1998), Bauer et.al. (1998), and Zimmermann (1994,1995, 1997) for various surveys.) Calibrating the model of Schmidt, Stilz andZimmermann (1994) using German data for 1993, Bauer and Zimmermann(1997) showed that in the case of unskilled immigration of 10 percent of theGerman labor force in 1993, income losses of natives could approach as muchas 5 percent of national income. In the case of skilled immigration there couldbe substantial gains due to the improvement of the employment possibilities ofunskilled natives (up to 4 percent of national income at the unemployment rates


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of 1993). Furthermore, they showed that the distributional effects ofimmigration could be quite dramatic. It appears that capital always benefitsfrom immigration and that these benefits increase with the share of skilledimmigrants. Both types of labor could lose substantially from immigrationdepending on the respective substitution coefficients. For instance, if 10 percentof the native work force immigrates and all immigrants are skilled, skillednative workers win 5.4 percent of their initial income. The loss of unskillednative workers is calculated at DM 62 billion or 21 percent of their initialincome in the case of unskilled immigration.

An increasing literature analyzes the wage and employment effects ofimmigration using econometric techniques. Most studies find that immigrationhardly affects native wages and employment, at least not negatively, but ratherexhibits a positive correlation (Bauer et. al., 1998). It should be noted thatsimilar studies in the U.S. were mostly unable to find remarkably negativeeffects of immigration on the labor market situation of natives (Friedberg andHunt, 1995).

GERMAN MIGRATION POLICY

Increasingly, economic historians argue that the convergence of livingstandards across countries in the period between 1850 and 1914 has been theresult of a globalization process similar to the process we observe since the1980s (Williamson, 1998). This literature also shows that the economic effectsof this globalization were similar to those we have observed in the 1980s and1990s, namely a significantly increasing inequality. Williamson (1998) arguesthat this development caused a more restrictive immigration and trade policyprior to World War I.

From 1988 to 1992 Germany experienced a sharp increase in immigrationflows (see Figure 1). Figure 2 shows the structure of the immigration flow toGermany since 1988 by immigration status. It appears that immigrationbetween 1988 and 1996 has been dominated by east-west migration and by aheavy inflow of asylum seekers and refugees. A large part of the east-westmigrants were ethnic Germans, who moved directly to Germany. Since 1989Germany also receives so called “New Labor Migrants” which consists oftemporary migrants (Werkvertragsarbeiter, Seasonal Workers, andGastarbeitnehmer) who immigrate through special bilateral agreementsGermany signed with several East European countries. (See Bauer andZimmermann (1997) for a detailed discussion of this type of temporaryimmigration.)


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Since 1992, immigration to Germany has decreased again due to a morerestrictive immigration policy of the German government, consisting of acoalition between the CDU/CSU and the FDP. Figure 2 shows that this decreasemainly can be traced to a decreased number of asylum seekers and Aussiedler.In the case of Aussiedler and asylum seekers there have been explicit changesin immigration policy. In 1993, the government amended the constitution andchanged the asylum law, giving Germany the possibility of sending backasylum seekers immigrating from member states of the European Union or fromother safe countries defined in the new law. As Germany is surrounded by safecountries, asylum seekers theoretically could enter Germany only by air or sea.The decrease in the immigration of Aussiedler is due to administrative barriersset up by the German government since 1990. Since July 1990, ethnic Germansmust apply for immigration in their country of origin. In 1993, a new law waspassed, which sets a quota of 225,000 Aussiedler per year. Finally, in 1996 aGerman language test was introduced for potential ethnic German immigrantsfrom the former USSR. Under the new legislation, ethnic Germans only receivean immigration permit if they can prove a certain command of the Germanlanguage (Dietz, 1998). In the case of the “New Labor Migrants” the quota ofimmigration permissions under the bilateral agreements have been reducedsteadily since 1992. Finally, the decreased number of refugees can be explainedby the end of the civil war in one part of the former Yugoslavia.

Particularly, German asylum policy must be considered with jointmigration policy of the European Union in mind. EU migration policy since1988 has been marked by two developments. First, since the original Treaty ofRome of 1957, internal migration within the EU has been liberalized steadily,finding its conclusion in Article 8a of the Single European Act. This Actrequires the achievement of free movement of people, capital, goods andservices from January 1, 1993, which implies the abolition of controls at theinterior borders of the EU. Second, with respect to immigration from outside theEU there have been increasing efforts to establish a collective and morerestrictive policy. (See Zimmermann (1994, 1995) for a comprehensivediscussion of the immigration policies of the EU and its individual members.)The necessity of a common EU migration policy is founded primarily on therequirements of a common European market, as the abolition of interior bordersresults in a dependency of each member state on the immigration policy of theother states. The EU path towards a joint migration policy started with theSchengen Accords of June 1985 (Schengen I) and June 19, 1990 (Schengen II)and the Dublin accord of June 15, 1990, and have been continued with theMaastricht Treaty, ratified in 1993.


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The main objectives of these initiatives have been the elimination ofinternal border checks, consistent and tighter external border controls, a unifiedvisa policy, and the coordination of different national asylum policies. Thelatest major step in the evolution of this policy is the Treaty of Amsterdam,which came into force in May 1998. Article 63 of the treaty mandates a closercooperation in the fight against illegal migrants, the elaboration of joint normsregarding the acceptance of asylum seekers, the definition of prerequisites forthe immigration and residence of persons from countries outside the EU, and therights and conditions under with immigrants of one EU member country canreside in another member country. However, the Amsterdam Treaty explicitlyrejected setting a fixed time schedule for the adoption of these measures.

It is interesting to examine the migration concepts of the German politicalparties. Until 1998, the CDU/CSU (the conservatives) had governed Germanytogether with the FDP (the market-oriented liberals), while the SPD (the SocialDemocrats) and Bündnis 90/Die Grünen (the Greens) formed the majoropposition parties. In 1996, the FDP and Bündnis 90/Die Grünen, actingseparately, proposed new immigration laws. Both concepts called for animmigration quota and selection of immigrants following the Canadian andAustralian point system (Frankfurter Allgemeine Zeitung, 1996; SüddeutscheZeitung, 1995, 1996). This point system was supposed to consider humanitarianand economic interests, demographic developments, as well as the situation ofthe German labor and housing markets. Differences in the proposals of the twoparties can be found only in the importance of different policy interests to whichthe points should be allocated. Bündnis 90/Die Grünen gave priority tohumanitarian motives and family reunification over economic interests. Incontrast, the proposal of the FDP favored social and economic aspects.

The SPD has no uniform proposal for immigration policy. Instead, there aretwo groups within the SPD which adhere to different concepts. One group is infavor of an immigration law similar to the point system proposed by the FDPand Bündnis 90/Die Grünen. Regarding the allocation of points among differentgroups of immigrants, the position of this group lies somewhere between thepositions of the FDP and that of Bündnis 90/Die Grünen. The position of theother SPD group is more similar to that of the CDU/CSU, arguing that there isa necessity neither for a new immigration law, nor for additional immigrants.According to their view the existing immigration regulations guaranteesufficient control of the immigration flows. Furthermore, an immigration lawwould imply the acceptance of additional migrants, but in the face of the highunemployment rates in Germany, immigration in addition to the immigrationguaranteed by the existing laws (the immigration of ethnic Germans, warrefugees, asylum seekers, and individuals immigrating through the family


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reunification program) could not be justified (see also Kanther, 1996;Hailbronner, 1996). After the SPD election victory of September 1998, the newminister of the interior, Otto Schily, referring to the above arguments,announced that the new government will not prepare a new immigration law inthe near future.

The tendency of the major German parties towards a more restrictiveimmigration policy leads to the question of whether the recent globalizationprocess and the huge immigration flows in the early 1990s resulted in risingtensions in the German population against additional immigration and whetherthese tensions could partly explain changes in migration policy. Table 1 showsthe share of Germans asking for a total stop of immigration for differentimmigrant groups for the period from 1990 to 1996. It is of particular interestthat the development of the tensions against additional immigrants is differentbetween western and eastern Germany. Whereas the share of West Germansopting for an immigration stop is constant or decreasing between 1990 and1996, the share of East Germans opting for a total stop sharply increases for allgroups of immigrants. Since East Germans experienced a sharp increase ofunemployment and inequality since unification, the latter result seems tosupport Williamson’s arguments (1998). Empirical studies of attitudes towardsforeigners in Germany (Gang and Rivera-Batiz, 1994) and the UK (Dustmannand Preston, 1998) show that negative attitudes towards foreigners decreasewith education and occupational status and increase with age. However, theresults with respect to the effect of being unemployed are mixed.

INTERNATIONAL COMPETITION FOR HIGH-SKILLEDWORKERS – AN IMPORTANT NEW FACTOR IN MIGRATION

POLICY REFORM

So far, the discussion has shown that the globalization process most likelywill result in increased immigration flows to the developed countries, at least inthe short and medium run, and that trade and immigration could lead toincreased income inequality or a rise in the unemployment of unskilled workers,even though the empirical evidence regarding the latter is mixed. Mostcountries facing this development have reacted with increasing restrictions onimmigration. However, we must ask whether this restrictive policy is the rightway to deal with the effects of globalization. A comprehensive ban on free labormobility would not solve the problems of unskilled workers resulting fromliberalized trade, since it would not alter the effects of liberalized trade.Furthermore, such a policy would lead to increased immigration pressure,resulting in high costs for the respective countries to protect their borders.


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Instead of restricting migration, one alternative would be to allow freemobility of labor across countries. In the short and medium run this would mostlikely lead to increased immigration of unskilled workers, resulting in increasedinequality and/or higher unemployment of unskilled workers in the developingcountries. In the long run, factor prices across countries could be expected toequalize and the incentives for migration to disappear. However, it is doubtfulwhether the increasing social tensions arising from such a development wouldallow the respective governments to sustain such a policy long enough for factorprices to equalize. Again, this policy is not able to solve the problems ofincreased inequality or increased unemployment for unskilled workers.

A second alternative would be selective immigration that would restrict theimmigration of unskilled workers while promoting the immigration of skilledworkers. This policy would lead to an increased supply of skilled workers,which lowers wages for this type of workers and decreases the excess demandfor skilled workers caused by liberalizing trade. If unskilled and skilled workersare complements, the increased employment of skilled workers will increasethe demand for unskilled workers, increasing the wages of the latter, or, in morerigid labor markets, decreasing their unemployment.

Two major questions remain for the case of a selective immigration policy.First, how should such a selective migration policy be organized? In general,there are two possibilities. (See Bauer (1998) and Bauer and Zimmermann(1999) for a detailed discussion.) The first is to adapt a point system, similar tothose in Canada, Australia, and, more recently, in Switzerland. The maindeficiencies of such policies are that (i) the existing management techniques ofa point system are not able to address unexpected events, like recessions; (ii) thetime lag between collecting and analyzing labor market data on occupationalshortages and the actual landing of immigrants could lead to the selection of thewrong migrants; and (iii) that there are no reliable empirical techniques toidentify shortages in particular occupations.

The second possibility is to auction the right to immigrate to potentialmigrants or native firms. To economists, the idea that the right to immigrateshould be given out by an auction is quite appealing, because an auction selectsmigrants according to their ability and willingness to pay. This selectionmechanism will efficiently identify those migrants who have a large capacity toproduce goods of high economic value while working in the receiving country.A point system also discriminates among migrants by their economic value, butan auction will in addition self-select those persons who have the best chance tobe economically successful. In general, this observation holds irrespectivewhether the immigration visas are auctioned to potential migrants or to nativefirms.


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The second main question is whether the receiving country should allowpermanent or only temporary migration. Permanent migration normally impliesthat selected high-skilled workers will immigrate together with their family.However, empirical evidence suggests that family members could end up asunskilled workers, an outcome that would result in problems similar to thoseunder an unregulated immigration regime. This problem could be avoided byallowing only temporary migration, since a government could then restrict theimmigration of family members more easily. Temporary migration wouldfurther allow a government to increase its efforts in educating native workers,as it has been the case in Germany during the guestworker regime.

CONCLUSION

Globalization (especially trade and its labor content) and migration are twosides of the future of western economies. From one perspective, the most crucialthreat of globalization is “virtual migration” through the Internet, in whichtrans-border telecommuting could seriously impact on local employment.While the immediate pressure is currently on the labor market of the low-skilled, virtual migration will also affect the skilled labor markets. Hence, thereis no way to ignore the pressure. We have argued that the best response is toopen up economies as far as possible, to speed up the adjustment processes inthe countries and to enable new market forces to develop new products andemploy both skilled and low-skilled workers. Selective immigration policiesare a first step in this direction. They enable governments to test the respectivestrategies and to convince voters that the transnational integration of nationaleconomies is in the best interest of their countries.

REFERENCES

Bauer, T. 1998. Arbeitsmarkteffekte der Migration und Einwanderungspolitik.Heidelberg: Physica-Verlag.

Bauer, T., B. Dietz, K. F. Zimmermann, and E. Zwintz. 1998. “Migration: The GermanCase,” mimeo., IZA, Bonn.

Bauer, T., and K. F. Zimmermann. 1997. “Integrating the East: The Labor MarketEffects of Immigration,” in S. Black (ed.): Europe’s Economy Looks East:Implications for Germany and the EU. Cambridge: Cambridge University Press,269-306.

Bauer, T., and K. F. Zimmermann. 1998. “Causes of International Migration: ASurvey,” in C. Gorter, P. Nijkamp, and J. Poot (eds.): Crossing Borders: Regionaland Urban Perspectives on International Migration. Aldershot et.al.: Ashgate, 95-127.


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Bauer, T., and K. F. Zimmermann. 1999. “An Immigration Law for Germany,” mimeo.,IZA, Bonn.

Bhagwati, J., and V. Dehejia. 1994. “Free Trade and Wages of the Unskilled: Is MarxStriking Again?” in: Bhagwati, J., and M. Kosters (eds.): Trade and Wages.Washington D.C.: American Enterprise Institute, 36-75.

Borjas, G., R. B. Freeman, and L. Katz. 1992. “On the Labor Market Effects ofImmigration and Trade,” in G. Borjas and R. B. Freeman (eds.), Immigration andthe Work Force. Chicago: University of Chicago Press, 213-244.

Brecher, R. A., and E. U. Choudhri. “International Migration versus Foreign Investmentin the Presence of Unemployment,” Journal of International Economics, 23, 1987,329-342.

Dietz, B. 1998. “Ethnic German Immigrants from Eastern Europe and the former SovietUnion in Germany: The Effects of Migrant Networks,” mimeo., Osteuropa-Institut,München.

Dustmann, C., and I. Preston. “Attitudes to Ethnic Minorities, Ethnic Context andLocation Decisions,” paper presented at the CEPR conference MetropolitanEconomic Performance, Lisbon (Portugal), October 1998.

Feenstra, R. C. “Integration of Trade and Disintegration of Production in the GlobalEconomy,” Journal of Economic Perspectives, 12, 1998, 31-50.

Freeman, R. B. 1995. “Are Your Wages Set in Beijing?”, Journal of EconomicPerspectives, Vol. 9 (3), 15-32.

Friedberg, R. M., and J. Hunt. “The Impact of Immigrants on Host Country Wages,Employment and Growth,” Journal of Economic Perspectives, 9, 1995, 23-44.

Gang, I., and F. Rivera-Batiz. 1994. “Unemployment and Attitudes Towards Foreignersin Germany,” in G. Steinmann and R. Ulrich (eds.): The Economic Consequencesof Immigration to Germany. Heidelberg: Physica-Verlag, 121-154.

Hailbronner, K. “Es bleibt nicht viel zu regeln übrig,” Frankfurter Allgemeine Zeitung,26. April 1996, Nr. 98, 14.

Haisken-DeNew, J. P., and K. F. Zimmermann. 1994. “Wage and Mobility Effects ofTrade and Migration,” forthcoming in W. Dewatripont and A. Sapir (eds.),International Trade and Employment: The European Experience. Oxford: OxfordUniversity Press.

Kanther, M. “Deutschland ist kein Einwanderungsland,” Frankfurter AllgemeineZeitung, 13. November 1996, Nr. 265, 11.

Lederer, H. W. 1997. Migration und Integration in Zahlen: Ein Handbuch. Bonn:Beauftragte der Bundesregierung für Ausländerfragen.

Lücke, M. 1996. Has Trade with Low-Wage Countries Hurt Unskilled Labor in WestGermany? mimeo., Kiel, Institute of World Economics.

Martin, P.L., and J. E. Taylor. 1996. “The Anatomy of a Migration Hump,” in OECD(ed.): Development Strategy, Employment and Migration. Paris: OECD.

Massey, D. S. “Social Structure, Household Strategies, and the Cummulative Causationof Migration,” 1-26, Population Index, 56, 1990.

OECD. 1998. SOPEMI – Trends in International Migration: Annual Report. Paris:OECD.


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Rotte, R., and M. Vogler. 1998. “Determinants of International Migration: EmpiricalEvidence for Migration from Developing Countries to Germany,” IZA DiscussionPaper No. 12, Bonn.

Sachs, J., and H. Shatz. “Trade and Jobs in U.S. Manufacturing,” 1-84, BrookingsPapers on Economic Activity, 1, 1994.

Schiff, M. 1996. “Trade Policy and International Migration: Substitutes orComplements?” in OECD (ed.): Development Strategy, Employment andMigration. Paris: OECD, 23-41.

Schmidt, C. M., A. Stilz, and K. F. Zimmermann. “Mass Migration, Unions, andGovernment Intervention,” Journal of Public Economics, 55, 1994, 185-201.

Stark, O. 1991. The Migration of Labor. Oxford: Basil Blackwell.Williamson, J. G. “Globalization, Labor Markets and Policy Backlash in the Past,”

Journal of Economic Perspectives, 12, 1998, 51-72.Winter-Ebmer, R., and K. F. Zimmermann. 1998. “East-West Trade and Migration: The

Austro-German Case,” IZA Discussion Paper No. 2, IZA, Bonn.Wood, A. 1994. North-South Trade, Employment and Inequality. Oxford: Clarendon

Press.Wood, A. 1995. “How Trade Hurt Unskilled Workers,” 57-80, Journal of Economic

Perspectives, 9.Zimmermann, K. F. 1994. “The Labour Market Impact of Immigration,” in S. Spencer

(ed.): Immigration as an Economic Asset: The German Experience. Stoke-on-Trent: Trentham Books.

Zimmermann, K. F. 1995. “Tackling the European Migration Problem,” 45-62, Journalof Economic Perspectives, 9.

Zimmermann, K. F. 1997. “Die Einwanderungskonsequenzen unterschiedlicherEinwanderungspolitiken,” in D. Sadowski and K. Pull (eds.), Vorschläge jenseitsder Lohnpolitik – Optionen für mehr Beschäftigung II, 297-316. Frankfurt, NewYork: Campus.

ENDNOTES

1 Correspondence: Prof. Dr. Klaus F. Zimmermann, IZA, P.O. Box 7240, 53072 Bonn,Germany. Prepared for the American Institute for Contemporary German Studies(AICGS) project on Regulating the Post-Westphalian World: The Politics ofGlobalization in Germany and the United States, Washington D.C., USA. We aregrateful to the participants at the May 1998 project meeting for their insightfulcomments and suggestions on an earlier version.


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Table 1: Share of Germans, Asking for a Total Stop of Immigration*

1990 1991 1992 1996

Aussiedler from East Europe

West Germany 20.4 10.1 10.1 11.5

East Germany - 11.9 10.9 17.7

Asylum Seekers

West Germany 30.4 21.6 23.8 21.7

East Germany - 15.2 18.1 21.1

Labor Immigrants from the EU

West Germany 13.3 9.8 9.0 12.1

East Germany - 25.5 24.0 37.7

Labor Immigrants from outside the EU

West Germany 34.1 28.4 28.1 31.3

East Germany - 39.3 36.1 49.3

Source: ALLBUS, own calculations.


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GLOBALIZATION AND LABOR MARKETS:A VIEW FROM THE UNITED STATES

John Schmitt1

INTRODUCTION

One of the central tenets of international economic theory is that trade,migration, and capital flows are major determinants of the national distributionof income. Textbooks of international economics argue that trade is potentiallybeneficial to all residents of all countries involved, but these same textbooksalso note that the costs and benefits are not always evenly shared.2 The strangepolitical economy of globalization—which has the power to unite trade unionswith their employers and liberal environmentalists with the likes of PatBuchanan—has apparently led many international economists to forget, or atleast to downplay, the distributional lessons of their discipline. U.S. economistswho were drawn to international economics precisely because of the key rolethat the international economy plays in the national allocation of resourcesspent much of the 1990s arguing that U.S. workers have little to fear fromopening up the U.S. economy; that jobs gained from expanded exports wouldmore than compensate for those jobs lost to imports; that cheaper importedgoods would raise real wages more than import competition would lowerwages; and, that, in any event, the exposure of the U.S. economy to worldmarkets is too small to warrant major concern.

U.S. workers, however, have generally reached different conclusions. Aftera sustained string of victories for “globalization,” which included theratification of NAFTA and the creation of the World Trade Organization, theroad to greater economic integration now appears largely blocked in the UnitedStates. Congress has rejected the Clinton administration’s bid for “fast track”authorization to negotiate an expansion of NAFTA to include Chile and theClinton administration has shelved plans to push for ratification of theMultilateral Agreement on Investment (MAI).

This paper seeks to outline the main links between the process of expandinginternational economic integration, widely referred to as “globalization,” on theone hand, and the labor market, the principal determinant of the nationaldistribution of income, on the other. The second, and longest, section of thepaper briefly reviews the many channels that connect the international economyto the domestic labor market. Given space constraints, the paper only sketchesthe nature of each link, summarizing some of the relevant research in each casein order to provide an idea of the order of magnitude of the various effects. Thethird section attempts to place the theoretical and empirical evidence on


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globalization in the context of the broader literature on rising wage and incomeinequality. The fourth section concludes with some thoughts about the politicaleconomy of globalization, including some implications for the future of the“welfare state.”

LINKS BETWEEN GLOBALIZATION AND THE LABOR MARKET

Economic theory establishes a large number of potential channels throughwhich the international economy can affect national labor markets. This sectionreviews those channels that act most directly on labor markets through trade,capital flows and migration. The coverage of potential channels seeks to becomprehensive, but the discussion of each channel typically only includes asmall portion of the relevant research.3 While the list here is long, it excludes atleast one important aspect of globalization—the possibility that internationalcapital markets might constrain the macroeconomic options available tonational economies by rendering monetary policy ineffective (for example, inthe case of a fixed-exchange-rate regime) or by limiting the scope of fiscalpolicy (because of the threat of large-scale capital outflows, for example).

TradeTrade in manufactures is the starting point for the U.S. debate on

globalization. Economic research on the impact of trade on wages andemployment has generally taken one of three approaches. First, much of theresearch, especially by labor economists, has focused on the impact onemployment and wages of the quantities of imports and exports of final goodsin import-competing and export-oriented industries. A second body ofresearch—primarily the domain of trade economists and more rooted intraditional trade theory—has analyzed the effect of the prices ofinternationally-traded final goods on domestic wages. Finally, someeconomists have argued that the increasingly complex nature of theinternational division of labor has created substantial opportunities for“outsourcing” of manufacturing processes through trade in intermediategoods used in manufacturing.

QuantitiesThe reasoning behind the quantity-based approach is simple. Rising

demand for exports creates jobs in export-oriented industries; while importsdestroy jobs in competing industries. Given the chronic U.S. trade deficit overthe last two decades, these analyses generally show a substantial negative

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impact of foreign trade on domestic employment and, indirectly, on domesticwages.

Scott, Lee and Schmitt (1997), for example, link industry-level trade data tothe direct and indirect employment required to produce a dollar’s worth ofoutput in each of almost 200 industries. They estimate that the expansion ofimports to and exports from the United States that took place between 1979 and1994 lowered domestic employment opportunities by about 2.4 million jobs,relative to a situation where the import and export shares in total industry outputremained at their 1979 level. Most, but not all, of the foregone job opportunitieswere in manufacturing. As Scott and Rothstein (1998) argue, even ifmacroeconomic policy counteracted the job losses in practice, the substantialloss of manufacturing jobs and their substitution by generally lower-payingservice-sector jobs put significant downward pressure on the wages of U.S.workers, particularly those without a four-year college degree.

Murphy and Welch (1990) and Borjas, Freeman and Katz (1991) convertedindustry imports and exports into changes in the “supply” and “demand” forworkers in affected manufacturing industries from the 1960s through the late1980s. These analyses focused on the wage effects of trade. Borjas, Freemanand Katz found that the trade deficit explained 15-25 percent of the rise betweenthe late 1970s and the mid-1980s in the earnings of college-educated workersrelative to high-school-educated workers.4 Murphy and Welch concluded that:“[t]he evolving pattern of international trade is perhaps a primary cause ofrecent wage changes.”

PricesTrade economists, however, have generally argued that the theoretical

foundations of the quantity studies are weak. Two deficiencies loom largest.First, the quantity approaches have not pinned down the reason for theexpansion of imports. An increase in an industry’s imports may reflect alowering of trade barriers or an expansion of world supply, events that wouldhave an important impact on domestic prices, employment patterns, and wages.An increase in imports, however, may also simply represent a response to a risein domestic demand that the domestic industry cannot fulfill as cheaply asforeign suppliers—a development that has very different implications for thedomestic economy. A second problem with the quantity approach is that itignores the central role that changes in international prices, not quantities, playin trade theory. To take an extreme example, quantities of imported oil changedlittle in 1974-75, but the change in world oil prices, nevertheless, had a profoundeffect on the domestic economy.


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The proliferation of “price studies” all draw on the Stolper-Samuelsontheorem, which holds that opening a domestic economy to foreign trade(through the reduction in a tariff, for example) will reduce the income of factorsused intensively in the production of import-competing goods. The basicreasoning is that industries competing with cheaper imports will be forced to cutcosts and that factors used disproportionately in the import-competingindustries (typically, less-skilled labor) will bear the burden in the form of lowerwages. Since the factor that is used intensively in the production of the nowcheaper product will have to absorb all of the relative price change, the changein relative factor price will have to be larger than any product price changeinduced by trade liberalization.

Sachs and Shatz (1995) find that trade-induced changes in prices canaccount for a substantial portion of the growth during the 1980s in the earningsdifferential between nonproduction and production workers in the UnitedStates. Schmitt and Mishel (1996) estimate that relative price changes mayaccount for 8-28 percent of the growth between 1979 and 1989 in the college-versus high school-worker premium and between one-third and all of the riseover the same period in the nonproduction- versus production-worker premium.Krueger (1996) concludes that the price evidence for the 1990s is consistentwith trade being responsible for the entire rise in the wages of skilled- relativeto less-skilled workers in the current decade.5 The empirical evidence onStolper-Samuelson effects is, however, on the whole mixed,6 with the mostdifficult problems involving the measurement of international prices.

While trade economists tend to prefer price studies, most of the publicdebate around NAFTA focused on numbers generated by the quantity studies.Political economy considerations probably weighed heavily in the choice. Animportant feature of the price studies is that they are embedded in the traditionalHeckscher-Ohlin framework, which assumes full employment. As such, theprice framework cannot be used to show job gains or job losses due to trade.Given that the run-up to the NAFTA vote included a recession and two years ofa “jobless recovery,” job numbers resonated with voters and theirrepresentatives. The price studies probably further constrained proponents ofNAFTA, since to show that trade was not responsible for growing wageinequality in the 1980s, such studies also had to demonstrate that trade had notchanged relative prices, which is to say that trade had not generated anyefficiency gains either.

OutsourcingBoth the quantity and the price studies analyze final goods. As Feenstra

(1998) has observed, however, the increasing “disintegration” of

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manufacturing frees firms to divide production into discrete processes, some ofwhich can be outsourced. The most natural candidates for outsourcing areprocesses that are intensive in their use of less-skilled labor. Feenstra andHanson (1996) show an important increase after 1972 in the volume of importedintermediate goods used in production of U.S. manufactures. They estimate thatthe rise in outsourcing accounted for about 20 percent of the increase in thenonproduction worker share of the wage bill during the 1980s.

Capital FlowsMundell’s (1957) classic paper on international capital mobility

established the principle that the free movement of capital has the same impacton wages as free trade in final goods. In principle, then, the strong emphasis inrecent trade agreements on liberalizing capital flows can lead to the same kindsof distributional difficulties for less-skilled workers in U.S. manufacturingindustries. These impacts of capital flows on domestic resource allocation anddistribution occur almost entirely independently of the short-term effects ofcapital flows that have received at least some share of the blame for the currentfinancial crisis in East Asia. Nevertheless, surprisingly little empirical researchhas attempted to study the economic and distributional effects in developedeconomies of inward and outward capital flows in the forms of foreign directinvestment, portfolio investment and private, bilateral and multilateral lending.One important and still understudied aspect of capital mobility relates to therelative immobility of labor. The liberalization of capital flows has made itmore difficult for nations to tax capital and has resulted in a shift in the taxburden toward less-mobile labor, with further implications for the nationaldistribution of income.

ImmigrationDocumented immigration increased substantially in the United States in the

1980s and 1990s, raising the foreign-born share of the population from 6.2percent in 1971-80 to 9.3 percent in 1991-96.7 While estimates vary,undocumented immigration also probably increased significantly over the sameperiod. The available data suggests that immigrants cluster at the high and thelow ends of the educational-attainment spectrum. In 1996, for example, about36 percent of immigrants had less than the equivalent of a high school degree,compared to 10 percent of the native-born population; about 27 percent ofimmigrants, however, had the equivalent of a four-year college degree, whichcompares favorably with the 28 percent figure for the native-born population.All else constant, economists would expect the increase in the supply ofimmigrant workers to depress wages of native-born and immigrant workers


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already in the United States. Given that immigrants disproportionately have lowlevels of formal education, economists would also expect that the supply effectswould be strongest on the wages of less-educated workers.

The empirical evidence on the impact of immigration on the wagedistribution is mixed. Borjas (1994) concludes a review of the recent literatureby noting that “. . . although there is only a weak negative correlation betweenthe presence of immigrants in a local labor market, immigration may have beenpartly responsible for the decline in the earnings of unskilled native workers thatoccurred during the 1980s.” In another review of the literature, DeFreitas(1998), however, argues that the recent research provides little support for theidea that immigrants have depressed wages of native-born workers (though hedoes believe the evidence suggests that recent immigrants have depressed thewages of earlier immigrants). DeFreitas explains the results by suggesting thatimmigration does not simply increase the supply of labor. Immigrants alsoincrease the demand for domestically-produced goods and services that“generate multiplier effects . . . through the economy.” He also speculates that“. . . the growth of immigrant concentrations in cities like New York, LosAngeles and Miami draws foreign capital here, as businesses in their homelandsseek to become part of these expanding markets.”

Threat EffectsA final link between globalization and the labor market is the “threat

effect.” Employers’ credible threats to relocate plants, to outsource portions oftheir operations and to purchase intermediate goods and services directly fromforeign manufacturers can have a substantial impact on workers’ bargainingpositions. The use of threats is widespread, but difficult to document. In aunique study of union organizing drives from 1993-95, Bronfenbrenner (1996)found that “. . . over 50 percent of all employers made threats to close all or partof the[ir] plant[s] during the organizing drive.” The impact of such threats,however, is much harder to demonstrate. Given their pervasiveness—Bronfenbrenner found that employers in relatively immobile industries such asconstruction, health care, education, and retail raised threats to relocate in 36percent of organizing drives—these threat effects could conceivably have agreater impact on wages than actual trade, capital or migration flows.

Taking StockGlobalization has an enormous potential to affect the domestic labor

market. Economic theory and a large and growing body of research suggeststhat the economic integration of the last twenty years has had an importantnegative impact on the wage and income distribution and employment

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prospects of the majority of U.S. workers. Even strong advocates of furthereconomic integration acknowledge some of the costs of globalization. FormerClinton economic adviser, Laura Tyson (1997), for example, judges that“[o]pinion is shifting toward the view that globalization has had a ‘moderate’effect—perhaps accounting for one-fourth to one-fifth of the nearly 20 percentrise in the wage differential between skilled and unskilled labor—and theestimate of this effect has been creeping up over time.” The precedingdiscussion outlines multiple channels through which the global economy actson the wages and employment opportunities of domestic workers. Takentogether, the potential impact on the national wage and income distributionmight ultimately exceed Tyson’s estimates.

GLOBALIZATION IN CONTEXT

The preceding discussion outlined the links between the international andthe national economy. This section seeks to place the evidence on globalizationin the context of the broader debate over inequality. Many economists arguethat even if globalization accounts for 20-25 percent of increasing inequality,this amounts to only a “small” impact relative to other causes of inequality(especially technological change, but also the deterioration of domestic labormarket institutions such as unions and the minimum wage) and relative to theefficiency gains from greater integration.

What is Small?Those who maintain that the effects of globalization are small implicitly

argue that we must weigh these minor distributional costs against what theyassert to be “large” efficiency gains. This position, however, sidesteps severalissues that are central to the public policy debate over globalization. The first isthe question of what is small. Wages for workers at the tenth percentile fell 15percent in real terms between 1979 and 1997; wages for workers in the nintiethpercentile rose about 6 percent over the same period. Twenty percent of the 21percentage-point growth in the wage gap would represent a four percentincrease in the real wage for workers at the bottom, relative to the actual realwage at the end of the period. Governments are hard-pressed to point to anypolicy capable of raising the real wages of so many workers by such amagnitude.

Second, the consensus view may underestimate the distributional impact ofglobalization. Current estimates rest on an array of research papers, each ofwhich generally examines only one of the many channels discussed in thepreceding section. If the data permitted it, a more holistic view of the effects of


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globalization might push the consensus figure higher. Moreover, two of thechannels that are most difficult to measure may ultimately have the biggesteffect on domestic wages and employment: the role that trade competition hason the pace and the terms of domestic technological innovation and the “threat”effect that probably magnifies the direct impact of foreign trade, outsourcingand foreign direct investment.

Third, a near corollary of the proposition that the wage and employmenteffects of trade are small is that the corresponding benefits are also small. Tradetheory is clear that the efficiency gains flow directly from the reallocation ofdomestic resources away from less efficient and toward more efficient uses.The reallocation requires separating workers from less efficient industries andlowering the relative wages of workers with less desirable skills. If relativeprices, relative wages, and overall employment patterns do not change much,efficiency cannot be improving much.

A fourth and closely related problem is that even if empirical research findsonly small effects of trade, that same research has also had a difficult timeestablishing large benefits from trade. Rodrik (1997), an advocate for freertrade, has pointed out that “[e]conomics is notoriously bad at quantifying forcesthat most people believe are quite important. For example, no widely acceptedmodel attributes to postwar trade liberalization more than a very tiny fraction ofthe increased prosperity of the advanced industrial countries.”

Finally, even if correct, the suggestion that the net effects of trade are“small” ignores that the gross losses and gains that produce this small netoutcome are potentially large. The “average” net effect of trade is not theexperience of every worker in every industry. Absent adequate means forchanneling benefits from the winners to the losers (full-employment policies, awell functioning social safety net, retraining, and so on), calculations of the neteffects of policies will fail to carry much political weight.

Globalization versus TechnologyThose who argue that effects of trade on inequality are small generally also

maintain that the real culprit is technological progress. In simplified terms,technology is supposed to drive inequality by rewarding workers who work wellwith computers (especially those with a four-year college degree) and bypunishing workers who do not work well with computers (especially those withonly a high school degree or less). While a comprehensive critique of thetechnology explanation is beyond the scope of this paper,8 several problemswith the technology thesis warrant consideration here.

First, as Figure 1 demonstrates, real wage levels for the vast majority ofU.S. workers have been stagnant or falling since the end of the 1970s. Even

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workers at the ninetieth percentile of the wage distribution saw their wages riseonly about 6 percent in real terms between 1979 and 1997. This picture of thewage distribution suggests that economic developments are pulling down themiddle and the bottom of the wage distribution, while the top is just managingto hold its own. On its face, the technology explanation seems more consistentwith a situation where skill-biased technological change would be pulling upthe wages of those at the top, while leaving the wages of those at the middle andbottom behind (but not necessarily falling). The simple picture in Figure 1,therefore, appears more consistent with the idea that globalization weighs moreheavily in recent wage developments than does technological innovation.

Of course, the data in Figure 1 have been adjusted for inflation using theConsumer Price Index (CPI), which has been attacked recently for overstatinginflation. The most commonly cited figures suggest that the CPI mayoverestimate inflation by about one percentage point per year. If the CPI doesoverstate inflation—and doubts remain about the size and, in some cases, eventhe direction of biases9—real wage growth over the last two decades has beenconsiderably better than what is suggested in Figure 1. Those critical of the CPIgenerally acknowledge that the mismeasurement problems are no worse todaythan they were in earlier decades. If this is true, then the CPI also underestimatedreal wage growth by about one percent per year in the “golden age” of wagegrowth prior to 1979. So, even if wages did not start falling in real terms after1979, they still decelerated sharply. At best, after 1979, real wages were flat orrising at a slower pace than they had in earlier decades. This markeddeceleration in real wage growth is more consistent with the economic logic ofglobalization than it is with a “technological revolution.”

A second problem with the technology thesis is closely related to the realwage argument: it is difficult to reconcile a technological boom with the sharpdeceleration in U.S. productivity growth that took place after the mid-1970s.Between 1947 and 1973, growth in labor productivity in the non-farm businesssector averaged almost three percent per year; since 1973, the average annualgrowth rate in productivity has been barely more than one percent per year. Aconvincing case for technology’s role in rising wage inequality must explainhow an acceleration in the pace of technological innovation succeeded inprofoundly altering relative wages, but failed to have any measurable, positiveeffect on labor productivity.

As with the CPI, labor productivity measures have come under attack inrecent years. Since much of the alleged problems with the labor productivitymeasures are closely related to problems with the CPI (particularly, how realoutput is measured), the basic arguments used to put the CPI critique intoperspective also apply here. The constant mismeasurement of productivity


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implies, at least, a considerable deceleration in the rate of productivity growthafter 1973, a deceleration that seems inconsistent with an acceleration intechnological progress. Some critics, however, argue that the productivitymeasure is becoming increasingly less accurate because of the rise in the shareof services in total output. Without entering into a discussion of the merits ofthis view, the magnitude of the mismeasurement that the serious proponents ofthis position put forth would eliminate, at most, only half of the deceleration inmeasured productivity growth since 1973.10

Other Sources of InequalityGlobalization and technology are certainly not the only potential

explanations for rising wage and income inequality. A large and growing bodyof research points to changes since the 1970s in key labor and product marketinstitutions, including unions, the federal minimum wage, the deregulation ofmajor industries, the privatization of many state and local governmentactivities, and the long-term shift in production and consumption away frommanufactured goods and toward services.

Estimates of the exact impact of the deterioration of these institutions onwage and employment outcomes vary. The decline in unionization rates andunion power in the 1980s consistently appears to explain 20 percent or more ofthe increase in inequality between more- and less-skilled male workers.11 Thedecline in the real value of the minimum wage may have had an even largerimpact on rising inequality among women.12 The long-term shift away fromrelatively high-paying employment in manufacturing toward relatively low-paying employment in services may account for as much as a third of theincrease in inequality, though it is difficult to separate the industry shifts fromthe contemporaneous drops in unionization rates, changes in the real value ofthe minimum wage, and trade deficit effects.13 Deregulation and privatizationappear to have had smaller effects, accounting for less than 10 percent of therecent increase in inequality,14 though research in this area is sparse.

Domestic product market institutions provide important insights into theeconomics of globalization. These domestic institutions are embodied inantitrust law, labor law and regulatory policy related to competition, pollution,consumer safety, worker health and safety, and other issues. They also respondto long-term social and cultural patterns of consumption and investment.Together, these institutions define the “real world” markets in which economicactors function. These institutions also strongly influence the domesticallocation of resources, relative prices, relative wages, employment patterns,and, ultimately, the distribution of income. A central feature of “globalization”is the restructuring of the institutions—tariff and nontariff barriers, and labor,


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environmental, health and safety, and other regulations—that set theparameters for product markets in internationally traded goods. Since changesin domestic product markets can have profound effects on employment andwages, we should expect no less from changes in international product marketinstitutions.

The various changes in the domestic institutions in the 1980s (weakerunions, lower minimum wage, more deregulation, greater privatization, andfewer jobs in manufacturing) have a common feature: they all served toundermine the bargaining power of workers with respect to their employers.The economic process of globalization, articulated through the channels spelledout in the preceding section, strongly complements these changes in domesticinstitutions by exposing domestic workers to direct and indirect competition(through import competition, outsourcing, the threat of relocation, and so on)with foreign workers, many of whom earn substantially lower wages.

POLITICAL ECONOMY OF GLOBALIZATIONAND FUTURE OF SOCIAL SAFETY NETS

Trade is a fundamental problem of political economy. Even if standardtrade theory accurately describes the world, efficiency gains from trade onlyhave the potential to benefit all members of a domestic economy. The problemfacing economists and politicians interested, for efficiency reasons, inexpanding trade is to use the gains from trade to put together a coalition ofpolitical forces that make further integration possible.

So far, politicians seeking such a coalition have failed to achieve it. Severalfactors help explain their limited success. First, many proponents of freer trade,capital flows and migration have been unwilling to admit that such policies havesubstantial costs for at least a portion of societies involved. The public debatein the run-up to NAFTA often featured NAFTA proponents that were unwillingto admit that even a single job would be lost as a result of the treaty. This attitudehas certainly undermined the credibility of the pro-liberalization forces in theeyes of much of the public. Since the enactment of NAFTA, proponents offurther integration appear to have recognized this credibility gap and havegenerally been more willing to discuss the potential costs of future tradeagreements.

Second, further economic integration poses what Vobruba (1998) hascalled the “globalization dilemma”: a welfare state is necessary to effect thekind of redistributional program required to compensate the losers in furtherglobalization, but further globalization undermines the ability of national

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economies to pay for an expansive welfare state. Rodrik (1997) makes thisargument forcefully on both theoretical and empirical grounds.

Third, the gains to trade may be smaller than integrationists believe,providing a smaller budget than necessary to put together a successful coalitionof social forces. As Rodrik has noted, many economists’ belief in the stronggains from trade flows more from theoretical models and just plain faith thanpersuasive empirical research. The bigger the gains from trade, of course, theeasier it will be to “bribe” opponents. A continued inability to put together sucha coalition, however, might constitute evidence that the economic gains fromtrade, capital and labor integration are smaller than the economics professiongenerally believes.

REFERENCES

Baker, Dean. 1998. Getting Prices Right: The Debate Over the Consumer Price Index.Armonk, N.Y.: M.E. Sharpe.

Borjas, George J. 1994. “The Economics of Immigration.” Journal of EconomicLiterature, vol. 32, no. 4, pp. 1667-1717.

Borjas, George J., Richard B. Freeman, and Lawrence F. Katz. 1991. “On the LaborMarket Effects of Immigration and Trade.” National Bureau of Economic ResearchWorking Paper No. 3761. Cambridge, MA: NBER.

Burtless, Gary. 1995. “International Trade and the Rise in Earnings Inequality.” Journalof Economic Literature, vol. 333, pp. 800-16.

Camarota, Steven A. 1998. Center for Immigration Studies. Unpublished tables.Card, David. 1996. “The Effect of Unions on the Structure of Wages: A Longitudinal

Analysis.” Econometrica, vol. 64, pp. 669-88.DeFreitas, Gregory. 1998. “Immigration, Inequality, and Policy Alternatives,” in Dean

Baker, Gerald Epstein, and Robert Pollin (eds.) Globalization and ProgressiveEconomic Policy. Cambridge: Cambridge University Press.

Dinardo, John, Nicole Fortin, and Thomas Lemieux. 1996. “Labor Market Institutionsand the Distribution of Wages, 1973-1992: A Semi-Parametric Approach.”Econometrica, vol. 64, pp. 1001-44.

Feenstra, Robert C. 1998. “Integration of Trade and Disintegration of Production in theGlobal Economy.” Journal of Economic Perspectives, vol. 12, no. 4, pp. 31-50.

Feenstra, Robert C. and Gordon H. Hanson. 1996. “Globalization, Outsourcing, andWage Inequality.” American Economic Association Papers and Proceedings, vol.86, no. 2, pp. 240-45; with unpublished errata supplied by authors, September 1996.

Fortin, Nicole M. and Thomas Lemieux. 1997. “Institutional Changes and WageInequality : Is there a Linkage?”, Journal of Economic Perspective, pp. 75-96.


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Freeman, Richard. 1993. “How Much Has De-Unionization Contributed to the Rise inMale Earnings Inequality?” in Sheldon Danzinger and Peter Gottschalk (eds.),Uneven Tides. New York: Russel Sage.

Griliches, Zvi. 1997. “Comments on Sichel.” Review of Economics and Statistics. p.371.

Krugman, Paul R. and Maurice Obstfeld. 1991. International Economics: Theory andPolicy. New York: Harper Collins.

Lee, David S. 1998. “Wage Inequality in the U.S. during the 1980s: Rising Dispersionor Falling Minimum Wage?” Industrial Relations Section Working Paper No. 399,Princeton University.

Madrick, Jeff. 1997a. “The Cost of Living: A New Myth.” New York Review of Books,March 6.

Madrick, Jeff. 1997b. “The Cost of Living: An Exchange.” New York Review of Books,June 26, pp. 65-67.

Mundell, Robert A. 1957. “International Trade and Factor Mobility.” AmericanEconomic Review, vol. 47, pp. 321-35.

Murphy, Kevin M. and Finis Welch. 1990. “The Role of International Trade in WageDifferentials,” in Marvin Kosters (ed.). Workers and Their Wages: ChangingPatterns in the United States. Washington, D.C.: American Enterprise Institute.

Peoples, James. 1998. “Deregulation and the Labor Market,” Journal of EconomicPerspectives, vol. 12, no. 3, pp. 111-30.

Rodrik, Dani. 1997. Has Globalization Gone Too Far? Washington, D.C.: Institute forInternational Economics.

Sachs, Jeffrey D. and Howard J. Shatz. 1995. “International Trade and Wage Inequalityin the United States: Some New Results. Unpublished paper, Harvard University.

Scott, Robert E., Thea Lee, and John Schmitt. 1997. “Trading Away Good Jobs: AnExamination of Employment and Wages in the U.S., 1979-94.” Economic PolicyInstitute Briefing Paper, Washington, D.C.: Economic Policy Institute.

Scott, Robert E. and Jesse Rothstein. 1998. “American Jobs and the Asian Crisis: TheEmployment Impact of the Coming Rise in the U.S. Trade Deficit.” EconomicPolicy Institute Briefing Paper, Washington, D.C.: Economic Policy Institute.

Schmitt, John and Lawrence Mishel. 1996. “Did International Trade Lower Less-Skilled Wages During the 1980s? Standard Trade Theory and Evidence.”Economic Policy Institute Technical Paper. Washington, D.C.: Economic PolicyInstitute.

Slaughter, Matthew. 1998. “What are the Results of Product-Price Studies and WhatCan We Learn from Their Differences?” National Bureau of Economic ResearchWorking Paper 6591. Cambridge, Mass.: National Bureau of Economic Research.

Teulings, Coen N. 1998. “The Contribution of the Minimum Wage to Increasing WageInequality: A Semiparametric Approach,” unpublished paper, University ofAmsterdam.

Tyson, Laura. 1997. “Inequality Amid Prosperity,” The Washington Post. July 9, p.A20.

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Vobruba, Georg. 1998. “Globalization,” presented at conference on “Germany’sCompetitive Capacity: Reassessing the Role of Labor Market Institutions in theNew Economy,” Economic Policy Institute, Washington, D.C., October 22-24.

ENDNOTES

1 The author thanks Rob Scott and participants at an AICGS seminar for many helpfulcomments.2 See, for example, Krugman and Obstfeld (1991): “. . . trade has substantial effects onthe income distribution within each trading nation, so that in practice the benefits of tradeare often distributed very unevenly.” (p. 39)3 For a more complete review of the evidence on globalization and the labor market, seeBurtless (1995) and two recent symposia in the Journal of Economic Perspectives,Summer 1995 and Fall 1998.4 Borjas, Freeman, and Katz found that the effect “diminished with improvements in thetrade balance during the late 1980s.”5 Krueger notes that his results are also potentially consistent with some forms oftechnological change.6 For a review of nine “price” studies see Slaughter (1998).7 See Borjas (1994) and Camarota (1998).8 Papers that find an important role for technology include: Autor, Katz and Krueger(1998); Bound and Johnson (1992); Berman, Bound and Griliches (1994); and Berman,Bound and Machin (1998). For a critical view of this literature, see DiNardo and Pischke(1997); Handel (1997); Mishel, Bernstein, and Schmitt (1998); and Howell (1994).9 For an alternative view on the CPI, see Madrick (1997a, 1997b); Baker (1998).10 See Griliches (1997). One other point that is particularly relevant in the context ofinternational comparisons is the observation that productivity growth rates in mostEuropean economies—which are presumably struggling with the same measurementdifficulties—substantially exceed those in the United States.11 See Card (1996) and Freeman (1993).12 See DiNardo, Fortin and Lemieux (1996), Fortin and Lemieux (1997), Lee (1998),and Teulings (1998).13 See Mishel, Bernstein, and Schmitt (1998), Chapter 3.14 See Fortin and Lemieux (1997) and Peoples (1998).


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GLOBALIZATION AND LABOR MARKETS:A VIEW FROM GERMANY IN THE EUROPEAN UNION

Reiner Hoffmann

INTRODUCTION

It should be acknowledged that in view of the conditions imposed by EMU,national labor and employment policies are no longer sufficient to overcomemass unemployment and shape structural change. This can only be achievedfrom a European standpoint. For this reason, this paper deals with the subjectof globalization and German labor markets not only from a German nationalperspective, but also in an essentially European context.

Labor markets in Germany and in Europe are experiencing a fundamentalstructural change. For proof of the dramatic situation in the labor markets today,one need look no further than to the over eighteen million people without jobsand the ever increasing number of long-termed unemployed (rising to over 50percent of the unemployed in some areas, in contrast to only 10 percent in theU.S.) in the European Union. Europe’s average employment level (those whohave jobs as a percentage of those who are able to work) has fallen from about62 percent to 60 percent. This is clearly below the American employment levelof 70 percent, and the Japanese level of 78 percent. The reasons for thecontinuing unemployment crisis that began in the mid-1970s are complex.Though economic trends have always had an effect on unemployment, thetremendous pace of structural change is of much greater significance and hasbeen intensified by globalization. Framed by new technology and productionmethods as well as advancing globalization, the European Commission’s reporton employment (1996) showed that, year for year, about 10 percent of the globalemployment opportunities in the EU had undergone restructuring. And newjobs created in new industries and in the service sector have not been able tocompensate for the continually declining number of jobs in various sectors ofolder industries.

Furthermore, ever since the beginning of the 1980s, even high rates ofGross National Product (GNP) growth have not been sufficient to ensure a highemployment rate. “In the second half of the 80s, employment never rosesignificantly above 1 percent in any of the Member States that did not achievean annual average growth of 3 percent” (European Commission, 1996). Thishad already been acknowledged in the Commission’s Green Paper on Europeansocial policy:


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Despite the efforts made in Europe over the last century, it can nolonger be assumed that an economic policy, which promotes growth,will automatically lead to full employment. It is generally accepted thatthe European problem will remain with us throughout a deep structuralcrisis that will most likely prevent a return to full employment in thenear future provided that the policy does not take an entirely newdirection (Commission 1993a, p. 17).

A new direction must also be taken at the European level. This was finallyrecognized by the heads of state and government of the fifteen member states atthe summit meeting in December 1994 in Essen, where employment and anactive labor market policy were established as political priorities. This initiativeowes its existence to the recognition that beyond the implementation of theMaastricht convergence criteria of economic and monetary union (EMU), aclear reduction in unemployment was required. The spirit of Essen suffused theinter-governmental conference on the revision of the Maastricht Treaty. Anemployment chapter was enshrined in the new EU (Amsterdam) Treaty, whichthe trade unions in particular had been demanding for a long time (ETUI 1997).With the adaptation of specific guidelines for EU employment policy at the EUjobs summit meeting in Luxembourg in November 1997, use of the newemployment chapter was already being planned in advance of the ratification ofthe Amsterdam Treaty by the member states. The employment chapter owesmuch to the election of a new French government and was facilitated further bythe election victory of the Labour Party in Great Britain. Similarly, Germany’snew government made it very clear at the EU Vienna summit in December1998, that EMU implied increased coordination of economic, tax andemployment policies among EU member states. It also gave high priority toforging a European employment pact.

GLOBALIZATION AND EMU: CONSEQUENCES FOR LABORMARKETS

Globalization of the economy is the key phrase at the heart of the neweconomic and social challenges. In fact, beyond the empirical reality ofglobalization as a genuine economic trend is its function as an omnipresent andideological keyword used by employers and the researchers who support them.Evidence of this is seen in discussions in Europe or in the so-called Standort-Debatte in Germany where labor standards are considered to be too high.Certain aspects of this debate merit a critical analysis.

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Increasing foreign direct investment is often at the center of the debate onglobalization. The following diagram gives an overview of the patterns offoreign direct investment within the trilateral region. Developments between1985 and 1992 undoubtedly show an increase in the degree ofinternationalization of direct foreign investment. At the same time, it is alsoclear that direct investment is concentrated within, and relatively evenly acrossthe trilateral region. Figures show 260 billion dollars worth of direct investmentmade in Western Europe by North America against 270 billion dollars investedin North America by Western Europe. At the same time however, there is aclearly higher level of direct investment within Western Europe itself (Hickel1998, p. 190).

Moreover, the German example shows that the increase in global trade isclosely connected with the increase in direct investment abroad. The motivationfor German foreign investment has been primarily to open up and securemarkets (between 60 percent and 80 percent according to a representativesurvey by the IFO Institute 1996), while wage costs, along with many otherfactors, accounted for some 10 percent. It is therefore hardly surprising that 80percent of direct investment by German firms is spent in OECD countries,particularly in EU countries (in line with Germany’s focus on exports), that isto say, in high-wage countries. At the beginning of the 1990s however, exactly15 percent of direct investment abroad which involved German capital went tothe so-called low-wage countries in the Asia-Pacific region and only 3.8 percentwas spent in central and eastern Europe (Jungnickel, cited from Altvater/Mahnkopf 1996, p. 257).

In Europe, and against a background of the economic developmentsoutlined here, it is clear that wage costs are not excessively high when viewedin global terms. Indeed, there has been a demonstrably favorable developmentof unit labor costs for companies, i.e., overall wages compared to laborproductivity. For example, while the German economy, compared to theeconomies in Great Britain, the U.S. and Japan, demonstrates a favorabledevelopment in unit labor costs between 1980 and 1995, an internationalcomparison shows the overall trend in unit labor costs to be favorable forbusiness. This is further indicated by an exorbitant increase in profits that waspartially hampered by the rise in the value of the Deutsche Mark (DM) (Hübner/Bley 1996).

The debate on “Eurosclerosis” concerns excessively high labor regulationstandards in continental Europe, which lead to an increase in employment costsand undermine competitiveness. Arguments in this debate, and in the debate onglobalization, must address the empirical fact that in the often-quoted Britishcounter-example, unit labor costs during the Thatcher 1980s were higher than


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those in Germany and France. Furthermore, between 1970 and the end of the1980s, it was precisely those Western European countries that boasted thehighest standards of living (Denmark, the Benelux countries, Germany, andFrance) and recorded not only the greatest real wage increases, but also thehighest labor productivity. This is in striking contrast to Great Britain and theU.S. (cf. Deakin 1997). According to the IFO (1996), by 1995 unit labor costshad fallen in France to an index value of 86.8, and in Germany to 87.8, while inGreat Britain during the Thatcher era they fell to only 97.6, in the U.S. to only99.2 and in Japan to 90.2 (1980 = 100). This situation is especially clear whenGermany (FRG) is compared with the U.S. Whereas nominal wages in bothcountries rose by approximately 100 percent between 1980 and 1994 (105percent in the U.S. and 99.3 percent in Germany), real wages in the same periodrose by 11.6 percent in the U.S. and by 34.7 percent in the Federal Republic ofGermany, while unit labor costs in the U.S. rose by 72 percent and by 42.2percent in the FRG. The reason for this contrasting development was thedifferent rate of increase in labor productivity, which rose by 16.5 percent in theU.S. but by 40.4 percent in the FRG over the period under consideration (all datafrom Kuda 1996). The fact that these figures are reminiscent of the comparisonbetween the EU and the U.S. is reflected in a comparison of the average annualrate of growth of macroeconomic labor productivities, which in the period from1986 to 1995 were 1.9 percent for the EU (EU-15), but only 0.8 percent for theU.S. (from Schubert 1997, p. 1). The highest labor productivity and the highestlabor productivity growth rates “are to be found precisely where the highestwages and highest social security contributions, the highest income taxes andthe most expensive and generous social welfare benefits are paid. Countries likeSweden and the Netherlands rank highest not only in terms of their socialwelfare benefits and labor costs, but also in terms of their labor productivity”(Krätke 1996, p. 15).

Similarly, the employment crisis in Western Europe can hardly be blamedprimarily on the globalization of world trade where the EU’s export share isonly 8 percent or by the decentralization strategies of multinationals. If the lossof jobs through decentralization were balanced by safeguarding and indeedincreasing the number of jobs through strategies to retain and open markets byinternationalizing production, then the export-intensive countries of WesternEurope would benefit most. Nevertheless, the OECD study on globalizationconcludes that international trade and direct investment have only a minorimpact on employment (OECD 1996, p. 10). Considering the demand for laboralone, the decisive factor in the employment crisis in the internal market ishighly capital-intensive production, particularly in Central and WesternEurope, not high productivity. This dampens the job-creating effects of


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significantly reduced investment (relative to profit levels), whereas theemployment miracle in the U.S. can be attributed to the fact that the growth ratesfor labor productivity are below those for production. This in turn was largelypossible as a result of the development of the personal services sector, which isparticularly underdeveloped in Germany.

The high number of job seekers on the supply side of the European labormarket was a second cause of persistent large-scale unemployment in the 1990sand is often neglected in debate. Reduced demand provoked a sharp rise inunemployment from the mid-1970s throughout the 1980s. Globalization onlyplayed a limited role in this, in that an influx of immigrants in the 1960s and1970s contributed to a higher labor supply. Furthermore, the growing demandfor jobs was bolstered by baby boomers who were entering the labor market, butmore significant was largely the result of a growing employment rate amongwomen (cf. the European Commission (EC) 1996, p. 23). This was a verywelcome consequence of the process of modernization in society. Indeed, theemployment problem would have been all the more dramatic if the Europeanemployment rate of slightly above 60 percent throughout the 1990s (except inSweden and Denmark) equaled that of the U.S. at 72 to 75 percent.

A genuinely new factor in the current process of internationalization that istypical of the globalization cliché is the internationalization of money andfinancial capital. This is the release or so-called unleashing and disembeddingof money as money and not as a means of exchange, circulation or payment (cf.Altvater/Mahnkopf 1996, pp. 129 ff). It is the transition to what is termed casinocapitalism. This is a form of capitalism in which real production plays anapparently ever decreasing role, but in which there remains interdependencebetween the spheres of money capital and production due to the circulation ofmonetary capital and productive and goods capital being consumed with eachother. In this respect, the processes associated with the globalization of moneyin the context of embedding also involve regional and national productionprocesses. In addition, the current processes involved in the internationalizationof money capital and the possibilities for making production more flexibleinternationally are being given a tremendous boost by the development of newinformation and communications technologies.

The creation of a common internal market and European monetary union isalso seen as a response to advancing globalization. With the realization of alarge common internal market without trade restrictions, not only shouldinternational competitiveness make Europe stronger, but this should at the sametime bring about new growth potential leading to positive developments in thelabor market. Even though a total of 9 million jobs were created in the EUbetween 1986 and 1990, about 4.4 million jobs were lost between 1991 and

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1996 and the unemployment rate rose to 11 percent. Clearly, the expectations ofthe Commission’s employment policy are far from being fulfilled.

Hence, globalization safely can be ruled out as a primary cause ofunfavorable developments in the labor market. Rather, the restricted increase ineconomic growth of only 1.6 percent between 1991 and 1996 (although therewas noticeable growth of 3.3 percent from 1986 to 1990) and a considerableincrease in productivity rank high among the fundamental causes of theemployment crisis.

The extent to which the final shape of monetary union, which came intoforce on January 1, 1999, will contribute to an employment miracle, or prove tobe a job killer, is pure speculation. The monetary convergence criteria havecertainly restricted possibilities for the European states to facilitateemployment policy, particularly with regard to public spending programs. Onthe other hand, there is no doubt that progress toward convergence over recentyears has clearly been successful in fighting inflation. This, in turn, has made itpossible to bring down interest rates, a development that has had a generallypositive effect on the whole economy.

FULL EMPLOYMENT UNDER ALTERED SOCIO-ECONOMICCONDITIONS

Against the background of the current employment situation and far-reaching structural changes to the labor market in the member states of theunion, it is necessary to rethink the traditional concept of full employment in thecontext of a European employment strategy. The concept of full employmentwhich is based on the so-called standard employment relationship and whichcorresponds to the traditional image of male skilled workers is becomingincreasingly less realistic. A new understanding of the term “full employment”is now required, which, to a far greater extent, and against a background of thealtered socio-economic conditions, takes into account new and challengingforms of employment. In particular, the increasing scope of “atypical”employment, whether part-time, piecemeal or fixed-term, all of which are foundin one form or another throughout the European Union, requires a structure thatgoes beyond the traditional concept of normal working conditions. But the neo-liberal concept of deregulation is hardly promising, as the British exampleamong others teaches us. What is necessary is a new social vision of workingconditions, a European concept of labor-related regulatory reform thatcorresponds to the altered requirements of both employers and femaleemployees.


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Part-time employment in Germany rose from three million jobs at thebeginning of the 1980s to over 5.9 million by 1997, including just under 17.5percent of the workforce. These figures place Germany in the middle of theEuropean spectrum. Among employed women, 90 percent have part-timepositions and represent the largest group to be so employed. The rising numberof women who are available for work is due not only to economic factors, butis also the result of broader transformations of social organization and at leastto some extent to improved equal opportunities for women with regard torecruitment into the job market. Furthermore, this increase is an indication ofthe altered understanding of the role of women in the gender-specific divisionof labor. Nevertheless, now as before, discrimination continues to exist, as doesopposition to reform, as a result of efforts to reduce unemployment and as theconsequence of promoting equal rights (Rubery 1999). A labor market andemployment policy that is oriented towards normal working conditions does nojustice to equal rights for women. To ensure equal rights, a practicable conceptfor full employment should take into consideration the increasing number ofwomen who are coming into the job market.

Ultimately, it is also social and cultural changes and the pluralization oflifestyles which affect the labor market and which demand a different conceptof employment. The Green Paper on European social policy by the EuropeanCommission states amongst other things, that “the profound process oftransformation into the post-industrial society can no longer be reversed.” Thisbegs the question, “What will society look like in the future, and what role willlabor play in that society?” (Commission 1993 pp. 17 ff.). It would be foolhardyto draw the conclusion that such a debate would distract from the urgent goal ofovercoming mass unemployment. To the contrary, this premise would hinderthe possibilities of actively proceeding with the further development of thecertainly imperfect yet distinctively European social model and thedevelopment of a European labor market offensive. In other words, theEuropean integration process and preparation for EMU can be exploited to thisend, to form an offensive concept in order to react to the basic and long-lastingchanges in the structure of the labor market. A great deal of flexibility that takesinto account the various interests of the female workforce and that supports newdemands made by business requires reform of labor market institutions, nottheir abolition.

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ALLIANCE FOR JOBS: THE APPROACH OF THE NEW GERMANFEDERAL GOVERNMENT

In January 1999 the new federal government introduced its first annualeconomic report with the program title, “Fresh Paths towards a BetterEconomy.” The most important aim of the new government was the “reductionof the level of unemployment, which is far too high.” Drawing on experiencesfrom other European countries and in the context of three closely relatedelements—the economy, trade unions and polices in the fight againstunemployment—the initiative aims not only at reforming labor markets andsocial welfare institutions, but also at bringing commerce and industry, thetrade unions and the new government to the table in an alliance for jobs.

In its report, the government advocates a policy of wage moderation for thesocial partners, in the context of reductions of taxes on profits and assets. Pageeighteen of the report deals again with distribution of income. Among otherthings, it states: “. . . the relative position on distribution in the previous yearclearly shows a more favorable shift in favor of companies and capital gains.Salaries and wages in real terms increased by 1.6 percent. By comparison, thesharp rise in gross income from business activities and assets (8 percent)exceeded expectations with an actual increase of 9 percent.” The governmentestimates the current jobs deficit in Germany to be over six million. It is notsufficient, in their view, to base this only on registered unemployed figures. Thefigure “must also include those people whose jobs are supported by the statewho are in the so-called ‘secondary labor market,’ as well as those who benefitfrom other labor market policy measures” (p. 10).

Policy-supported labor market segmentation in Germany emphasized cleargaps in productivity within the economy as a whole. Measured in nominal grossnational product per employee, total economic productivity in 1998 in EastGermany hovered around 60 percent of the West German level. Theconsiderable competitive disadvantage of the East German Länder was due,among other things, to the fact that wage increases far exceeded the increase inproductivity. “The income of workers who were not self-employed per workerin 1998 was around 74 percent of the West German level . . . The unit labor costswere therefore, on average, far higher than in West Germany. In 1998 wagecosts per unit of production in East Germany were about 24 percent above theWest German level, after having reached a difference of about 23 percent in1997” (p. 10).

In 1998 for the first time there was a clear improvement in the labor market.At the end of December 1998, 4.1 million people were registered asunemployed. This meant a fall of 300,000 against the previous year. In West


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Germany the number of unemployed people was at almost 2.9 million, whichwas 180,000 lower than the previous year. In the eastern Länder the number ofunemployed people fell by approximately 150,000 from almost 1.3 million.This was predominantly attributed to increased use of labor market policymeasures that had been vigorously followed. In all, after three years of decliningwage unit costs, Germany can learn from a restrictive wage policy (p. 20).

For 1999 it is calculated that, due to the slowdown in growth, the number ofpeople employed in Germany will increase only slightly. Demographic trendswill ease the labor market situation in Germany, as an overall decline in thenumber of people of employable age is anticipated. The estimated 4.1 millionjobless corresponds to an unemployment rate of around 10.5 percent of theworkforce. This means a reduction of only 0.6 percent (11.1 percent) over 1998.“With a yearly average of the number of unemployed people at just under 2.8million, the unemployment rate for West Germany was around 9 percent,compared to 9.4 percent over the year. With over 1.3 million unemployedpeople in 1999, the unemployment rate in the eastern provinces fell to around17.2 percent of all employable people from the previous year’s 18.2 percent.The projected economic growth rate of 2 percent is far too low for significantreduction in unemployment. In this situation, labor market policy has animportant role to play” (p. 34).

In common with the preceding Christian Democratic-led government, theRed-Green coalition considers the creation of additional jobs to be a vitalnational task that requires ever greater European commitment (p. 38). EMUalready prompts particularly strong coordination of fiscal policies not onlyamong EU member states, but also among the Group of Seven (G7).Coordination and cooperation means that the single macroeconomic policyareas—monetary, finance and wage policies—work together without conflictso that more job creation results from price stability (p. 39). At least accordingto the European Commission, it is a matter of an appropriate mix of supply anddemand policy at the national and European levels. Hence, strengthening ofdomestic economic growth should top the agenda of European authorities. Ashas been officially recognized since the Essen summit, a coherent employmentstrategy consists of coordinated national and European employment policyefforts. Two initiatives—the alliance for jobs, training and competitiveness andthe European employment pact proposed by the German government—comprise the most recent articulations of this principle.

The Red/Green agenda for the alliance for jobs, training andcompetitiveness refers to twelve areas for action:

1. long lasting reduction in the statutory non-wage labor costs as well as


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structural reform of social security;2. distribution of work designed to promote employment and flexibleworking times, enabling overtime to be reduced (working-time banks) aswell as the development and promotion of part-time work;3. company tax reform, especially to ease the burden on medium-sizedenterprises by January 2000;4. improvement of innovation and competitiveness in business enterprises;5. greater flexibility in early retirement schemes, respecting existing legalage limits for retirement, pay agreements and company-specificregulations;6. wage policies that support job creation;7. improved access to venture capital by small and medium-sizedenterprises;8. enhanced opportunities for employee participation in company equity-sharing and profit-sharing schemes;9. involvement of employees in the promotion of innovation andcompetitiveness;10. further progress in removing structural barriers to firm start-ups andbusiness development;11. opening of new areas of employment and training for poorly qualifiedworkers; and12. expansion of the scope of labor market policy instruments to bedeployed in the battle against youth and long-term unemployment.

A pay policy oriented towards medium-term productivity developmentdeserves special attention. Though labor costs continue to be a most importantcomponent of the national economy, it is well known that wages also comprisethe most important single element of aggregate demand, i.e., privateconsumption. Addressing employers, the report is emphatic in stating that ifwage growth lags behind productivity increases in the medium term,unemployment cannot be fought with wage restraint, as has been the case since1996 in West Germany. The past three years have shown that this reaction offersno solution to the employment problem.

The point has been made before the White Paper, “Growth,Competitiveness and Employment” (Commission 1993), argued that since thebeginning of the 1980s in Europe real wages have constantly lagged behindproductivity growth—indeed much more so than in the United States. Duringthe same period, employment has lagged significantly behind performance inthe United States.

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That said, in the EMU context, indications are that in view of differentlevels of productivity and the different growth rates in productivity across EUmember states, greater differentiation of pay levels are necessary, as are EU-wide pay settlements (p. 50). The same ménage is conveyed explicitly in theGerman government’s alliance for jobs paper in the chapters on “Europeanintegration” and “European employment policy.”

Turning now to action at the EU level, the German government’s proposalfor a European employment pact may be summarized in four imperatives:

1. coordinate economic, financial, monetary, and currency policies moretightly;2. improve implementation of the employment policy guidelines and thenational employment policy action plans;3. reform structural policies required for the functioning of goods, servicesand capital markets within the single market and for increasing businesscompetitiveness; and4. develop the details of the European employment pact and outline the“Essential Features of the Employment Policy,” including theidentification of the decisive instruments for coordination at a Europeanlevel (p. 69).

EMPLOYMENT PACTS IN EUROPE: EXPERIENCES IN IRELAND,ITALY, PORTUGAL, AND BELGIUM

An alliance for jobs is in no way a German specialty. It has been frequentlyoverlooked, until recently, that similar initiatives have been in existence formany years in several other EU member states. Such institutionalized forms ofconcertation constitute the very foundations of industrial relations in theScandinavian countries and in the Netherlands. Indeed, social pacts, which havenot led to further erosion of industrial relations, but to their further developmentand stabilization, while also strengthening macroeconomic coordination, havealso been agreed upon in countries with a lesser degree of institutionalizedconcertation, such as Ireland, Italy, Portugal, and Belgium (Fajertag and Pochet1997). Any comparison between and analysis of the efforts to develop socialpacts in various European countries must take into account the still existingdifferences between national systems of regulation, especially with regard toindustrial relations. In the following section, the experiences of Ireland, Italyand Portugal are briefly outlined and some conclusions drawn in relation to theEuropean employment pact discussed in the concluding section.


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In Ireland, under the pressure exerted by the catastrophic labor marketsituation, the employers’ federations and the government concluded a Programfor National Recovery back in 1987. This was followed by the Program forEconomic and Social Progress (1991-1993) and the Program forCompetitiveness and Work (1994-1996). Taken together the pacts seek tomodernize the economy and industrial relations through a wide-rangingdevelopment process. In the Program for Competitiveness and Work (PCW),total pay increases of 8.25 percent for the period 1994 to 1996 were negotiated,against the background of a forecasted 7.5 percent increase in the price index.Alongside the preservation of real earnings, the PCW placed emphasis onfostering employment and creating new jobs. However, its successes proved nomore than modest. It is true that the level of the national debt was furtherreduced and the rate of inflation in Ireland has fallen to 2.5 percent. Theunemployment rate—11.8 percent—is still high, but significantly lower than in1993 (15.6 percent). Even so, the Irish agreements deserve our attention,particularly because of their approach to fostering economic enterprise andvocational training measures at the local level. In the closing months of 1996, anew national agreement, Partnership 2000, was concluded and was ratified bythe unions in January 1997. In brief, this agreement retained the same prioritiesas other agreements but with different emphases—the development ofpartnership structures at the workplace level, protection of living standards anddevelopment of measures to tackle the prevailing experiences of socialexclusion.

In Italy a major contribution to stabilizing industrial relations was made bythe “social pact” concluded in 1993 between the trade unions, the employersand the government. The agreement provides for two rounds of meetings peryear between the three groups. In the spring round of talks the guidelines forpublic expenditure, the forecast inflation rates, GDP, and employment growthare laid down, while the autumn round is held to discuss the measures requiredfor implementation of the budgetary policy goals. This consultation with thesocial partners is intended to give the trade unions a maximum degree ofindirect participation in macro-economic developments. This “concertationpolicy” was accepted by the center-right coalition, the transitional governmentand continued by the “Olive Tree” coalition. Of particular importance in thecontext of this agreement are the solidarity contracts (contratti di solidarietà)which are regarded as an instrument for remedying the employment crisis bymeans of work-time reductions. Compensation for loss of income due to lessworking time varies between 50 and 70 percent depending on the company’ssize and the sector involved. Funds allocated for redundancy payments may beused to finance this kind of measure. Also under the terms of the “new social

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partnership” a compromise was reached, after much controversy, on the reformof the pension system.

The consultation among the government and the social partners led, inSeptember 1996, to a major agreement, the Pact for Employment. Questionsrelating to working hours and flexibility of working relations were tackledcomprehensively in this agreement. The Pact for Employment aims to:

• strengthen and extend the effectiveness of pro-employment policies;• promote new infrastructure investments;• strengthen human capital via initial and continuing training;• render labor market instruments more appropriate; and• review certain forms of employment relations.

In Portugal, too, the political changes that followed the parliamentary andpresidential elections seemed to lead to a change of direction in the labor marketpolicy debate. In January 1996 a tripartite agreement was signed between theUGT (a trade union confederation), the employers’ federations and thegovernment. The principal components of this agreement included a reductionin the normal statutory working week to forty hours in conjunction with theintroduction of a provision for flexibility and a general guideline for the 1996collective bargaining round—a 4.5 percent nominal pay increase, alongsideprojections for inflation of 3.5 percent and productivity increases of 2 percent.The CGTP (the other major trade union federation) considered the agreement tobe unacceptable from both an employment policy and free collective bargainingstandpoint and therefore did not sign it. Already under the neo-liberalgovernment of Prime Minister Cavaco Silva, a medium-term “economic andsocial agreement” had been signed in the Permanent Council for SocialConcertation by the employers’ federations and the two trade unionconfederations (CGTP and UGT). This had been preceded at the end of the1980s by widespread protests against the policy of deregulation conducted bythe government. The tripartite agreement is also viewed as an expression of thenew government’s hopes of reviving the dialogue with the trade unions. It wasintended as the point of departure for further negotiations on a strategicagreement combining measures in various policy fields designed to achieve, inthe medium term, greater competitiveness, growth in employment andimproved social cohesion. The extent to which the tensions between the tradeunion confederations (CGTP and UGT) can be relaxed will also depend on thesuccess of this agreement. A significant factor here is the Maastrichtconvergence criteria and the austerity policy conducted to meet them, for thishas been explicitly rejected by the CGTP. Also of considerable significance is


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the agreement on collective bargaining in the public sector signed by the UGT(FESAP and STE) and the CGTP (Frente Commun). This stipulates a maximumworking week of 39 hours and further phased reductions designed to leadultimately to a 35-hour week. It is also intended that negotiations should be heldto decide on measures for the reduction of “precarious” employment contracts.

On December 20, 1996, the government, the main employers’ federationsand UGT signed the wide-ranging “Agreement on Social Consultation,” whichprovides for measures regarding the promotion of employment, incomes policy,education, and vocational training, among other things. The agreement isplanned to run until 1999 and has direct significance for the 1997 pay roundinsofar as it specifies a reference figure of 3.5 percent for nominal pay increases.

The experiments with “social concertation” in Belgium have not to date, asfar as the trade unions are concerned, produced significant effects inemployment policy terms, while the wage freeze decreed by the government for1995 and 1996 represented a clear case of interference in the process of freecollective bargaining. Back in May 1993, after heated discussion andcontroversy, an agreement between the trade unions and the employers wasconcluded. This covered the employment of young workers (under age twenty-six), accompanying measures in the event of company restructuring, careerbreaks, and the introduction of part-time work combined with part-time earlyretirement starting at the age of fifty-five.

The tripartite negotiations in April were intended to achieve a “Contract forthe Future of Employment.” However, one of the national unionconfederations, the FGTB, declared it was unhappy that the draft pact containedno adequate guarantees on job creation. After the idea of a national pact hadfallen through, the government adopted three framework laws oncompetitiveness and employment, the future of social security and budgetpolicy which, by and large, included all the major points of the draft pact. Underthe new legislation, future pay developments must be in accordance with thosein France, Germany and the Netherlands—Belgium’s three most importanttrading partners.

CONCLUSIONS:PROSPECTS FORA EUROPEAN EMPLOYMENT PACT

Labor markets in Europe are in the throes of structural change and curbingmass unemployment still constitutes one of the greatest challenges facing theEuropean Union. Though the effects of globalization, deriving in particularfrom more acute international competition, should not be underestimated,experiences in numerous European countries nonetheless show that neo-liberal

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deregulation of labor markets is not an appropriate response to structuralchange. Rather, various experiments conducted in the EU member states, andthe initiative for a “jobs alliance” in Germany, indicate that structural problemsin the labor markets can be tackled more effectively by means of socialdialogue. Now that monetary union is in place, individual national initiativesare quite simply inadequate. Relatively stable industrial relations have alwaysrepresented a central component of the European social model, though there canbe no denying that this model currently stands in urgent need of modernization.Under conditions of economic and monetary union and increasing globalizationthere is an ensuing need to develop supranational structures to complement theexisting national ones. The adoption of the so-called “Employment Title” in theAmsterdam Treaty creates for the first time a real opportunity for steps to betaken at European level to tackle the employment crisis and modernize labormarkets. The new title does not merely acknowledge that employment policy isa matter of common interest for the EU member states; it also stipulates thedevelopment of a coordinated European employment strategy. To this end,concrete European employment policy guidelines were adopted for the firsttime in November 1997 for incorporation by the member states into nationalaction plans to be submitted, on an annual basis, to the EU Council of Ministers.At the EU Council meeting held in Vienna in December 1998 it was furtheragreed to devise a European employment pact for presentation by the Germanpresidency at the Cologne summit in June 1999. The idea of such a pact is notnew but is based on ideas which—as shown—have in some countries led toemployment policy successes with the active involvement of the social partnersand which have simultaneously contributed to regulation of labor markets andsocial security systems. European-level initiatives along similar lines had beenearlier proposed by Commission Presidents Delors and Santer, but were givenno real follow-up.

The medium-term employment pact agreed upon in Cologne has enabledthe achievement of a new quality at the European level, in pursuit of three goals:

1. From a macroeconomic standpoint it is a question of achieving a smoothand tension-free interplay of fiscal and monetary policy and pay developments.

2. The employment policy guidelines based on the Amsterdam employmentchapter are to be developed and made more effective.3. Structural reforms to improve competitiveness and the operation ofmarkets for goods, services and capital are to be stepped up.

The qualitatively new element consists of the so-called macroeconomicdialogue, intended to achieve a successful policy mix,


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incorporating fiscal, monetary and income policy components. The EuropeanCentral Bank will also be a party to this dialogue, to be held twice a year. Theinvolvement of the ECB is in keeping with an important trade union demand.While not denying the need for the European Central Bank to remainindependent in the presence of a single currency, the unions have stressed thatthis body should not seek exclusively to achieve price stability, but should at thesame time pursue, as an equally important goal, non-inflationary growth gearedto raising the employment level.

Though it is not possible to analyze here in detail the “three pillars” of theEuropean employment pact (see diagram), two central conclusions ofsignificance in the context of the globalization discussion may be drawn fromthe European experiences. First, to some extent, the process of Europeanintegration and monetary union represent answers to the process ofglobalization. They entail the creation of new supranational instrumentsenabling the implementation of new levels of regulation, which, in the contextof a global economy, will become increasingly important. The need for anintegrated employment and macroeconomic strategy and for internationalcoordination was indeed also stressed at the G-8 meeting of employmentministers in February 1999.

Secondly, it can be clearly shown that mere deregulation of the institutionsof the labor market is an inappropriate response to the spread of globalization.The European experience offers precise examples of how to strengthen thesocial dialogue at supranational level. The formulation, implementation andevaluation of the employment policy guidelines strengthen the position of thesocial partners by giving them new tasks and functions at both the national andthe supranational level. At the beginning of this year the International LaborOrganization in Geneva stated that social dialogue, a well-conceivedmacroeconomic policy mix and a problem-oriented labor market policy are thefactors which, in several European states, have led to a relatively successfulemployment policy. Approaches of this type lend themselves to themodernization of labor markets under conditions of globalization, with a viewto raising the level of employment as a means of combating and ultimatelyovercoming the scourge of unemployment.

REFERENCES

Altvater,E., Mahnkopf, B. 1996. Grenzen der Globalisierung, Münster.Bundesministerium der Finanzen. 1999. Neue Wege zu mehr Beschäftigung der

Bundesregierung, Bonn.


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Commission of the European Communities. 1993. Growth, Competitiveness,Employment – White Paper, Luxembourg.

European Commission. 1996. Employment in Europe 1996, Brussels.European Commission. 1997. Employment in Europe 1997, Brussels.Fajertag, G., Pochet, P., eds. 1997. Social Pacts in Europe, Brussels.Foden, D. 1997. “Europe and employment – high priority but modest progress,” in

Gabaglio, E., Hoffmann, R. European Trade Union Yearbook 1996 (Brussels,1997).

Hickel, R. 1998. Standort-Wahn und Euro-Angst, Reinbeck bei Hamburg.Hübner, K., Bley, A. 1996. Lohnstückkosten und internationale Wettbewerbsfähigkeit,

Marburg.Ifo-Institut. 1996. Ifo - Schnelldienst Nr. 20.Krätke, Michael. 1997. “Globalisierung und Standortkonkurrenz,” in: Leviathan. Nr. 2.

Westdeutscher Verlag, S. 202-232.Kuda, R. 1996. Arbeitsplätze, Produktivität und Einkommen, Hektographiertes

Manuskript, Bonn.OECD. 1996. Globalization of Industry, Overview and Sector Reports, Paris (OECD -

Publication Service).Schubert, L. 1997. The “European model” for growth and competiveness, Paper,

prepared for the conference “Creating employment in Europe,” Brussels 16 - 17January 1997.

TRANSFER – European Review of Labor and Research, Quarterly of the ETUI. 1998.Final steps towards the EURO, Volume 4, Number 1, Antwerpen.

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HIGHER EDUCATION IN AN ERA OF GLOBALIZATIONDaniel Fallon and Mitchell Ash

As the economies of nations such as the United States and Germanycontinue to blend into a more integrated global economy, emergent marketscreate increasing pressure for standardization across nations and within nations.In higher education these pressures are manifested first and most clearly oncurricula and certification requirements, and secondarily on the functionaldevelopment of an educated workforce.

In the United States and in Germany new wealth is now being created moreby information, management, services, and technology than by the mainstays ofthe preceding industrial revolution: agriculture, heavy industry andmanufacturing. This distinctive shift in resource production can be called a neweconomy, and it thrives upon stable governments, international legalconventions, transparency in the flow of information, and other features that arecharacteristic of the ideals of modern democracies. At the same time the neweconomy requires a critical mass of intellectual capital, and this requirementsustains pressure toward a high level of education for the general citizenry.

In the United States and in Germany there has been since 1960 a stunningincrease in participation among citizens in higher education. The phrase “masshigher education” is commonly used to refer to this phenomenon, but it is poorlyunderstood, and is sometimes casually used to describe structural inadequaciessuch as overcrowded classrooms. It is deserving of a more precise definition.For example, one might define mass higher education as a situation in whichmore than 50 percent of citizens twenty-five years of age or older report someexposure to education beyond the secondary school level. This measure is easyto obtain in the U.S. because every year since 1900 the United States Bureau ofthe Census has asked a sample of citizens: “How many years of schooling haveyou completed?” The responses have been tallied by age group, and routinelyaggregated for citizens twenty-five years of age or older. By this measure, theU.S. crossed the threshold of mass secondary education (50 percent reportingmore than eight years of schooling) in 1910, and of mass higher education (50percent reporting more than twelve years of schooling) in 1968. Strictlycomparable figures do not exist for Germany, but available evidence impliesthat Germany does not yet have mass higher education, although it is rapidlyapproaching that milestone and likely to experience it within a few years.

In the Federal Republic of Germany, enrollment in institutions of highereducation increased by more than a factor of ten from the early 1950s to theearly 1980s, rising from about one hundred thousand students to more than onemillion. Reflecting the democratization of its society and the integration of its


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economy into the world economy, the character of the student body alsochanged dramatically. By the mid-1980s about 40 percent of the students inGerman universities were women, and those from what might reasonably beconsidered the “working classes” comprised almost 15 percent. In 1950 theproportion of persons in Germany who were the right age to attend theuniversity and who did attend was about 5 percent, and by 1980 that number hadincreased to more than 25 percent. These changes were in keeping with globaltrends in advanced market economies and were symbolic of a more inclusive,more participative, German political economy.

Although the phrase “mass higher education” is occasionally heard inGermany, the term “mass university” is more common. It is valuable todistinguish the idea of higher education, which encompasses a broad range ofinstitutions and purposes, from the idea of the university, which is characterizedby specific Humboldtian principles, especially the authority to award the Ph.D.and other doctoral degrees. Mass higher education enjoys wide acceptance inthe U.S., in part because it has developed as a diverse highly differentiatedcollection of very different kinds of institutions, providing many differentalternatives to students at varying prices and with varying accessibility. InGermany, which largely lacks such alternatives, attention has been focused onthe one most visible institution: the university. In fact, in Germany today morethan 70 percent of students in higher education are enrolled in universities. Theremainder are in teacher education colleges, schools of theology, art academies,comprehensive technical colleges (Fachhochschulen), and specializedinstitutions. This is in stark contrast to the U.S. where about 20 percent ofstudents in higher education are enrolled in universities, and the remainder arein comprehensive four-year colleges or in two-year community colleges.

The long-term trends toward an increasingly better educated populationhave occurred along with fundamental changes in the underlying politicaleconomy. It is not scientifically possible to say whether one of these changescaused the other, and in any case approaching the question in this way may notbe analytically valuable. Nonetheless it is possible to describe the emergingpolitical economy of the West in the context of globalization, and to assertconfidently that mass higher education is essential to its maintenance.Therefore, mass higher education will be a feature of both United States andGerman societies in the foreseeable future.

As many commentators have noted, sometimes sardonically, more years ofeducation do not automatically mean better education. Particularly in terms ofthe challenges of globalization, important questions still need to be addressedconcerning the content of mass higher education, the forms it will take, andwhether the necessary changes can be accomplished gradually or will require


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radical reform. Policy analysis, including considerations of history andpolitical culture, is needed to answer these questions.

HISTORICAL PERSPECTIVES

The national boundaries of both the United States and Germany havechanged since 1900, and both nations participated in two world wars withprofound consequences for each of the two nations, especially Germany.Education, by its very nature, is highly dependent upon political and socialinfrastructure. Therefore, the political, social, and economic foundations forthe educational systems of the two nations have an enduring effect on the natureof the lively discourse about higher education currently underway in bothcountries.

In the U.S., the debate over expansion of the franchise for education hashistorically centered on whether education can be considered a “private” or a“public” benefit. Of course, education is beneficial for both individual andcommunity ends, but the nature of American democracy has required publicconsent to public finance, and thus has stressed justification for support in termsof public consequences. For example, at the height of the industrial revolutionin the U.S., in the late 19th century, there was consensus that primary schoolscould be supported by tax dollars. Initially, secondary schools were widelyregarded as preserves for a social elite, and there was extensive resistance to theidea of paying for them with public tax dollars in the same way as for grammarschools. State courts, especially in Michigan, ultimately established a firmlegal basis for universal public secondary education.

Public expenditures for higher education accelerated in the latter part of the19th century when its purpose was firmly grounded in the public benefits ofsupport for agriculture and engineering. That franchise was greatly extended,and further democratized, when veterans of the Second World War weregranted benefits by the U.S. Congress in 1945 to pursue higher education atgovernment expense. The current structure of higher education in the U.S. is adirect outgrowth of the broad democratic political economy that supports it.The diversity of the polity, and its responsiveness to changing economiccircumstances, accounts in large measure for the differentiated missions ofhigher education, delivered through a complex mix of “private” and “public”institutions, two-year and four-year colleges, and research universities.

One of Germany’s great gifts to the world has been the reforms in Prussiaaffected by Wilhelm von Humboldt at the beginning of the nineteenth century.These not only created the persuasive academic basis for the modern researchuniversity through the founding of the University of Berlin in 1810, but also


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included the restructuring of secondary education through Humboldt’selaboration of the school plans for the Lithuanian territories. In a thoroughgoingradical reform, Humboldt’s design drove poorly educated teachers out of thesecondary schools, to be replaced by students educated at the new university.Humboldt envisioned an evolving state, subject to continual improvementsover time, in which wise ministers nurtured a fiercely independent academicresource, the university, which, in turn, provided even wiser ministers tosuccessive governments. The rapid adoption of Humboldt’s basic designs foruniversities and for gymnasia can best be explained by the exceptionalpersuasiveness of their logic, and their suitability to the political economy of theemerging German nation state.

By the turn of the century, however, a widening gap yawned between theideals of Humboldt’s conception and two modern realities: the rise of themodern system of specialized, often large-scale research and the parallelgrowth of an expert society with increasing demand for academically trained,but not necessarily broadly educated professionals. One response in theImperial era (1870-1914) was a remarkable diversification of higher educationthrough the creation of new academies for middle-level professionals, such aselementary school teachers and social workers, and the enhancement of thestanding of existing technical academies to be co-equal with that of theuniversities. A second response was to reconstruct Germany’s research systemby adding prestigious extra-university establishments such as the institutes ofthe Kaiser Wilhelm Society (KWG) to the existing mix. Interestingly, theleading spirit behind the KWG, theologian and science manager Adolf vonHarnack, cited Humboldt in support of new institutions that actuallyundermined the Humboldtian ideal of the unity of teaching and research.

In the Weimar era (1919-1933), Humboldt’s name was again invoked, thistime as part of a rhetoric with which a culturally conservative professorate triedto defend its traditional standing in the face of what they took to be symptomsof modern decadence, such as overspecialization and the pursuit of mereknowledge without unifying values or a meaningful “world view.” UnderNazism the professors’ claims to leadership as well as the freedom of teachingand research disappeared, due to political manipulation but also to the passiveacceptance or active collaboration of many German academics with the regime.

Upon the upheaval in German society at the conclusion of the SecondWorld War, a combination of events led to the development of two temporarilysuccessful but ultimately untenable systems of higher education. In the FederalRepublic of Germany the Ordinarienuniversität of the late 19th century wasnostalgically idealized as a model. In the German Democratic Republic, theHumboldt tradition was at first co-opted and then systematically undermined in


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keeping with Marxist theories for asserting control of the means of production,which required the functional separation of research from teaching.

At first the massive expansion of the universities in the Federal Republic ofGermany (FRG) was supported by a consensus that crossed the entire politicalspectrum. In contrast to the cultural conservatives of the Weimar era,conservative modernizers in the 1950s sought to raise the number and quality ofacademically qualified professionals, while liberals and social democrats spokeof a right to higher education for all. After the student revolts of the late 1960s,however, this consensus evaporated. The inherent dissonance in the FRGbetween the elite Ordinarienuniversität and the increasing economic andpolitical diversity of the burgeoning numbers of new university students led torapid change by the early 1970s. One of the consequences was the sharppoliticization of factions within the university, which continues to makeachievement of a consensus solution elusive today. Lack of agreement on basicprinciples within the higher education community inhibited allocation ofgreater resources toward budgets for higher education. At the same time,federal planners projected decreasing enrollments in future years, basing theirnumbers strictly on birth rates and not anticipating broader participation inhigher education. The result was wildly mistaken projections that vastlyunderestimated the current and future size of the student body. These twofactors are the fundamental causes of the chronic underfunding that plaguesGerman universities to the present day.

In the German Democratic Republic (GDR), the name “Humboldt” wasapplied as a symbol to an ideology of socialist humanism that only barelymasked the actual reversal of the ideals for which Humboldt had stood. Inprotest of the ongoing communist restructuring after 1945, a group ofcourageous, disciplined and well-organized students left the University ofBerlin and succeeded in forming in the western sector of the city a newinstitution, The Free University of Berlin, in 1948. The communist authoritiespromptly renamed the original University of Berlin the Humboldt University ofBerlin, a name it has carried from 1949 to this day. However, the unity andfreedom of teaching and research were replaced in the GDR by the primacy ofMarxism-Leninism and an ever-increasing rigidity of study programs to makethem better suited to a planned economy. Reforms introduced in the 1960s didnot lead to mass education in the GDR, but rather to the destruction of anyremnants of the traditional system and the installation of a “new intelligentsia”loyal to the communist party. This successful politicization, along with theweakness of the planned economy, was primarily responsible for thewidespread stagnation of the GDR universities in the 1980s.


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The dissolution of the GDR in the early 1990s led to a comprehensiverestructuring of higher education in the East, along lines compatible withuniversities in the West. The ironies here are obvious to many. The last GDRminister of higher education and the current minister for science and art inSaxony, Hans Joachim Meyer, spoke in 1991, in an ironic reference toNietzsche, of a “transvaluation of values”; a higher education system that hadbeen widely regarded as in deep crisis in the late 1980s suddenly became thebest of all higher education systems. More ironic still, the term used for thewholesale transfer of West German institutions was “renewal.” Someinnovations long proposed in the West, such as efforts to supportinterdisciplinary research and teaching programs and better cooperationbetween universities and extra-university research institutes, were introducedin the new German Länder. The chance, however, to use this extraordinaryhistorical event as an opportunity for reform in the German system as a wholewas largely missed.

GLOBAL STABILIZATION

Many observers feel that the debate over university reform in Germanytoday is nonconstructive, if not completely paralyzed, because of the magnitudeof the financial, political and social problems it poses. At the same time, theneed for functional reform is widely recognized, and many different smallreform efforts are proceeding in various settings.

Increasing globalization is beginning to have an effect on higher educationin both the United States and Germany, pushing both nations toward a moreorderly interface of their systems of higher education. The mechanism forcingmore comprehensive solutions is a form of standardization, the process bywhich different structures inescapably merge to facilitate necessary transfer ofgoods and information. In the U.S., for example, public pressure has led tovirtual universal acceptance of courses taken at the beginning levels ofuniversity by universities everywhere. Thus, a course in introductorypsychology taken at an open-enrollment community college in one state will beaccepted toward a degree by a prestigious selective-enrollment researchuniversity in another state. Similar facilitation of transfer between, say,Fachhochschulen, Berufsakademien and Universitäten, has begun to take placein Germany.

Finally, among nations, there is an increasingly sophisticated knowledge ofcomparative higher education systems that is making it easier for students ofeither country to study in either Germany or the United States, and to have theircourses and their credentials recognized in both places. Much of the pressure


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resulting in these functional changes is occurring outside of universities andgovernments. An example is the work of the Ringberger Kreis in Germany,which advocates a sophisticated differentiated higher education structure inGermany, with precise equivalents to the United States academic degrees ofB.A. and M.A. Such cross-national standardization seems clearly to be drivenby the increasing globalization of the political economy in which we live.

The new economy, with its emphasis on information, is rapidly developingnew technologies that are likely to accelerate cross-national standardization inhigher education. Generically called distance education, university-basedacademic courses are increasingly being offered to students via electronicmeans on the World Wide Web. Unlike their predecessors on videotape andaudiotape, the new courses permit authentic interaction and dialogue betweeninstructor and student as instruction proceeds and have thus secured a followingamong even renowned scholars at outstanding universities. Security procedureshave been mastered to permit academic quality control even when students areadmitted to the course from remote locations in nations remote from thescholar’s office. These courses result in the accumulation of grades and creditsthat can be applied toward degree requirements, and can be transferred from oneinstitution to another. The fact that they can be taught by professors in anynation and taken by students in any nation is likely to lead eventually to theadoption of international academic standards for what constitutes a course andappropriate academic performance by a student.

FINANCING

Perhaps the most important problem facing modern political economies asthey move to enable mass higher education is the issue of cost. In this arena thedifferences between the United States and Germany are very large. Guided byits own history Germany has provided higher education at public expense.Humboldt viewed state and society as different expressions of the samephenomenon, in much the same way that Aristotle did. It never occurred to himto think of state and society as different entities; citizens were inevitably partsof society, and the society was the state. In turn it was the state’s responsibilityto ensure that the society could function and thus the state must provideeducation for the citizens. The U.S., however, was a democracy long before itbecame a state. The revolution that created the U.S. made explicit through itsconstitutional structures that state and society were different, and that the statewas subservient to the society it served. This has made the financing ofeducation intimately dependent upon democratic processes in the U.S.


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The distinction between “public” and “private” universities in the UnitedStates has been a topic of considerable fascination, and much fantasy, forGerman observers. One common stereotype encountered with high frequencyin German public media and in general discussion is that the truly excellentuniversities in the United States are private universities that charge high tuitionsand are thus accessible almost exclusively to an elite. Public universities, incontrast, are often regarded as facing the same problems of quantity and qualityas German universities. This misconception has little basis in current orhistorical fact and is a significant impediment to serious cross-nationalconsideration of higher education issues.

In fact, since 1945 most “private” universities in the United States havepursued a strict policy of need-based admission, in which applicants areadmitted exclusively on academic merit, and financial aid is then applied toensure that every student who is admitted may attend, regardless of familyincome. Furthermore, since 1945 the policies of the federal government haveresulted in significant public financing of private universities, almost all ofwhich also receive financial support from the governments of the states inwhich they are located. At the same time, “public” universities have since 1970become increasingly less dependent upon financial support from the states thatcreated them, and receive today on average less than one-third of their annualbudgets from legislatively appropriated tax dollars. Virtually all publicuniversities now charge significant fees (tuitions) collected directly fromstudents. Some private universities charge very low tuitions, and some publicuniversities charge very high tuitions.

There are outstanding universities of the highest academic excellence inprivate and public sectors, just as there are also mediocre universities in both.The financing of higher education in the U.S. is surprisingly similar for bothprivate and public universities, and everywhere includes a mix of funds fromfour sources: (a) federal government; (b) state government; (c) the student; and(d) private contributions from individual philanthropists, charitablefoundations, and business or industry.

The gradual emergence of a pluralistic form of financing of highereducation in the United States is a direct result of mass higher education.Secondary education is different for two reasons. First, students in secondaryeducation live for the most part in the homes of their parents and the schools are,therefore, local. It is appropriate for such schools to be supported by local taxes,usually based upon property assessments. Second, secondary education is lessexpensive than higher education, and the costs can be kept withinunderstandable limits for local governmental budgets. Neither of theseconditions hold in the same way for higher education.


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Higher education is by its nature usually removed from the locality of thestudent. There are good educational reasons for students to leave their parents’homes and take up residence at or near the university they attend, and there ishistorical precedent for this pattern extending over many centuries. This makesit difficult to support universities based upon the tax revenues of localities, suchas the cities or towns in which they are located. The tax base must be broader,which forces state or federal support. Second, higher education is moreexpensive. As a labor-intensive industry, one must compete for intellectualcapital of a peculiarly special kind. Productivity is also inherently limited, as italways is in service industries highly dependent upon personal interaction.Research universities are capital intensive as well, requiring extensivelaboratories, clinics, instrumentation, and libraries. The expense of highereducation at the state level was affordable in the U.S. from public revenues aslong as the numbers of students were relatively small.

As the system began to accommodate more students, especially after 1969,the costs outran the abilities of the state governments to provide adequatefinancing. Compensatory financing was provided by a remarkable increase infederal support, primarily in the form of student aid, and in a requirement thatstudents and their families assume a part of the financial burden. Although thefinancing of higher education in the United States is dynamic and not yetentirely settled, it seems clear that the final solution for this societycharacterized by mass higher education will be a pluralistic one, with a mixtureof public and private charges.

A pluralistic system of finance for higher education has some perhapssurprising benefits for the core activities of higher education. When all of thefinancing for an enterprise comes from a single source, then the financingauthority necessarily gains extraordinary control over the enterprise. If a stategovernment provides 100 percent of the budget for a local university, forexample, this relationship facilitates the intrusion of the state into matters thatare the traditional preserve of academic authority, including teaching andresearch. State governments can require that certain courses be taught. Inactions that encroach on academic freedom, they can also prescribe elements ofthe curriculum within certain courses. They can direct that research be focusedon immediate practical ends, and can discourage curiosity-driven inquiry. Theycan prescribe workload requirements that may be dysfunctional to the inherentpurposes of a university. If finances come from many different sources,however, then the academic community has greater opportunity to preserve itsown integrity and autonomy.

German universities are currently struggling with the problems associatedwith financing higher education. The reasons for this struggle are quite similar


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to those that have caused the shifting pattern of financing in the United States,and are mirrored in other western nations facing the same developments.Germany must also face squarely the question of the fundamental role andmission of the university. History has bequeathed Germany a relatively rigidstructure of higher education that has been overtaken in the latter 20th centuryby a dynamic democratic society and a political economy quite different fromits founding premises. It is likely that the forces of globalization will continueto push Germany towards a more differentiated structure of higher educationand a more pluralistic system of financing. Discussions currently underway inGermany concerning revisions in the university framework legislation(Hochschulrahmengesetz) reflect these external pressures, explicitly invokingthe concepts of private higher education, greater choice for students amongtypes of institutions, multiple sources of financing, local control of admissions,and sanctions against long-term students.

It should be noted, however, that prospects for private universities inGermany appear to be quite limited; there have been some successfulfoundings, such as Witten-Herdecke and several Fachhochschulen, but theseare such special cases, attracting relatively few students that they seem unlikelyto contribute to a general solution for higher education in Germany. They mayexert some competitive pressure on the public universities in some respects, butare not likely to be seen as credible genuine alternatives. This is due in part torestrictive taxation, foundation and inheritance laws that make it extremelydifficult to raise funds in the necessary amounts. A more fundamental reason,which also accounts for the legal limitations, is that Germans continue to regardhigher education as a public good and, therefore, to view its financing as theresponsibility of the state.

Perhaps the primary inhibiting factor for reform in Germany is that Germanscholars and the German public are not uniformly convinced of the value ofmass higher education. On the contrary, the function of university education inGermany is hotly contested, with some voices calling loudly for a return togreater selectivity and invoking misperceptions of the American eliteuniversities as well as mythical idealizations of the Humboldtian tradition.When former minister Jürgen Rüttgers pronounced in one of the debates aboutframework legislation that “Humboldt is dead,” loud protests came from bothstudents and professors. In this context accessibility and excellence are viewedas mutually exclusive. There is as yet no solid basis in German political culturefor the claim, quite obvious to most Americans, that it is not only possible, butnecessary to combine relatively open access and high quality in highereducation and research.


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It is legitimate to ask whether everyone, even in the new economy, shouldhave a university education, and a reasonable answer is no. That is why westress the importance of distinguishing between university education and highereducation. In the new economy it is indeed reasonable to assume that everyoneshould have a higher education, i.e., some education beyond the level ofsecondary school. In the United States there are rich opportunities for pursuinghigher education in institutions that are not universities. In Germany there arenot. Therefore, a priority for Germany must be to increase the variety ofopportunity in higher education that is not centered exclusively in theuniversity.

GLOBALIZATION: COMMON PROBLEMSAND A COMMON FUTURE

The obvious increasing interdependence of national societies within aglobalizing economy will ultimately bring about a standardization of highereducation in economically advanced nations, especially in the United States andGermany. Already faculty and students are beginning to work moresuccessfully within a higher educational structure that recognizes similarities intheir workload, their course designs, and their credentials. The forces ofglobalization are likely to push Germany toward a more differentiated structureof higher education and its finance, and at the same time push the U.S. towardan accommodating standardization of its credentials and curricula relative tointernational norms.

It is a mistake to think of globalization as the victorious domination of oneculture over another. Although some may claim that globalization is simply acode word for “Americanization,” the U.S. is no more immune to the forces ofworldwide economic development than Germany or any other nation. In aglobal environment all national cultures will compromise with internationalrealities, but fundamental differences between German and American politicalculture will remain. Competing globalization projects may emerge, orgeographical spheres of influence, such as Europe and North America, mayproduce differing models within a more transparent global system.Nonetheless, human society faces a common future with common problems.Therefore, the standardization of higher education as a consequence ofglobalization will benefit not only Germany and the U.S., but also the world atlarge.


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David B. Audretsch and Maryann P. Feldman

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INNOVATION AND GLOBALIZATION:A U.S.-GERMAN COMPARISON

David B. Audretsch and Maryann P. Feldman1

INTRODUCTION

Globalization has brought large-scale economic changes that affect thecompetitive advantage of advanced economies. Germany and the United Statesprovide contrasting models for comparing the way that economic systemsrespond to a single underlying economic force. Each country has a distinct setof institutions that determine the organization of economic activity and thepotential to realize and profit from innovation. These institutions respondeddifferently to globalization which, in turn, determined the ability of theeconomy to adapt and to restructure and innovate. These, in turn, led to largedifferences in economic performance.

Ever since its famous Wirtschaftswunder, or economic miracle, of the1950s the rest of the world has associated Germany with remarkable prosperityand stability, providing both high employment and wage rates. The Germanmodel of a Sozialmarktwirtschaft (social market economy) generated not onlythe material wealth found on the other side of the Atlantic, but also provided thehigh degree of social services and security found elsewhere on the Europeancontinent. Germany’s approach demonstrated that capitalism could not onlygenerate a high and equitable standard of living, but that it could also have afriendly face.

That the bottom would drop out of such a successful economic model hassent shock waves both throughout Germany and beyond its borders.2 As ofDecember 1998, German unemployment exceeded four million people, or 10.6percent of the labor force,3 the highest level since the pre-Nazi WeimarRepublic.4 One of the country’s most widely read weekly magazines, Stern,responded with the headline, “Germany before the Crash?” and warned ofunemployment levels exceeding five million people.5

Unemployment of such proportions threatens the once solid economic basisupon which postwar German democracy had been built. One of the most seriousdaily newspapers in the country, Die Zeit, pointedly asked, “Will Bonn becomethe Weimar Republic?”6 Such concerns reflect a social mood that is troubledand questioning. The public’s confidence in the economy and the government’sability to manage the crisis has considerably weakened. This shaken confidenceled to the defeat of the CDU and the reigning Bundeskanzler, Helmut Kohl, and


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the election of the SPD challenger, Gerhard Schröder, as a result of theSeptember 1998 federal election.

As economic growth stalled and unemployment began to ratchet upwards inthe early 1990s, German reunification was frequently cited as the culprit.However, at the end of the decade, it is clear that the burden imposed on theWest German economic model by absorbing eighteen million people from theformer German Democratic Republic is not singularly responsible forGermany’s current problems. At the heart of the German crisis is an economicmodel that once served as the engine driving the Wirtschaftswunder but morerecently has bogged the country down by impeding necessary structural change.An economic system that is no longer viable in the West has been rigidlyimposed on the five new Bundesländer.

By contrast, the United States has enjoyed the lowest levels ofunemployment in decades. Labor markets are increasingly characterized by ashortage of workers, especially skilled workers. However, the wage and incomegaps in the U.S. have continued to widen, which threatens social cohesion andsustainability. The U.S. has succeeded in generating new jobs, but the benefitshave not been universally enjoyed, not evenly distributed. Most notable is thecreation of a new economic ghetto occupied by the “working poor”—those whowork full time at near minimum wage with minimal employment benefits, lowjob security and little chance for advancement.

These two national economic experiences reflect widely different ways oforganizing the economy and have dictated alternative responses to the globaleconomic order during the past fifty years. This paper focuses on one particularaspect of Germany’s Sozialmarktwirtschaft and America’s entrepreneurialmodel—the way in which the systems of innovation have responded to theonslaught of globalization in the last decade. The systems of innovationembedded in the two distinct economic models have been traditionally thoughtto yield different sources of comparative advantage for Germany and the U.S.Typically, studies concluded that Germany held the comparative advantage inindustries with a high level of human capital and skilled labor, such as machinetools, metalworking and automobile production. These industries tend toexhibit incremental rather than radical innovation. By contrast, the UnitedStates held the comparative advantage in high-technology industries that werebased on radical, science-based innovation, such as computers, software andbiotechnology. In the following, we discuss the process of innovation and thensituate the German and American political economies with respect toglobalization, according to some leading factors associated with innovation.We conclude by discussing an emerging economic model that leveragesknowledge-based activity for broad based economic growth.


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WHY DOES INNOVATIVE ACTIVITY MATTER?

Innovation is a critical process underlying growing dynamic changes inadvanced market economies. Economic value is created through innovation thatmay involve new products, new processes or changes in organization. Incontrast to a lowest-cost-competitive strategy based on reducing production toa simple essential element, innovation adds value by better addressingconsumer needs. Profits arise from economic rents attributable to perceivedvalue. Innovation changes the basis for competition in an industry and createsnew industries. Most importantly, innovation begets further innovation in orderto serve evolving consumer demand.

To create value from innovation requires the input of skilled labor. Skilledlabor facilitates the search for new and improved ways of doing things. This actbrings about technical progress, which is one of the most important factors inexplaining gains in real income.

THE TRADITIONAL VIEW

During the postwar era most trade and economic investment activity wasconfined to Europe and North America, and only at a later stage to a few of theAsian countries, principally Japan and the “Asian Tigers.” Comparativeadvantage was generally attained through large-scale production, whichfacilitated low-cost production through exploiting scale economies.Competitive low-cost advantage is based on large-scale mass production ofstandardized products.

The relatively small domestic markets in Germany, as throughout mostEuropean countries, posed a serious threat to postwar competitiveness.However, Germany developed two strategies to compensate for restricteddomestic markets. The first strategy was to develop export markets outside ofthe domestic market. This internationalization allowed German companies totake advantage of scale economies. The second was to rely on skilled labor andhigh levels of human capital to produce products that, although they might costmore, were of superior quality (Streeck, 1991; and Sorge, 1991). Largetransnational corporations thrived in the postwar era on this dual strategy basingcomparative advantage on large-scale production, itself made possible bysuperior management and organization combined with high-skilled labor. Byand large, the comparative advantage of German producer was in moderate-technology products in traditional industries, such as machine tools, automobileparts, metalworking, chemicals, and the food industry.


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Characterizations of German innovative activity have typically focused onits incremental nature. In his study on national systems of innovation, Nelson(1992) concludes that German success in innovative activity lies in incrementalimprovements in products and processes in existing industries. The biastowards incremental innovation over radical innovation in the Germaneconomic model is the direct result of long-term commitments between workersand firms, low worker mobility and a bias in financial institutions towardsexisting firms and technologies (Ifo Institute, 1997). According to Drtouzos,Lester and Solow (1989), Streeck (1991), and Sorge (1991), an institutionalstructure emphasizing consensus and long-term commitments has givenGermany the capabilities to incrementally improve upon existing technologicaltrajectories. Ergas (1998) was among the first to classify the national system ofinnovation in Germany as being diffusion-oriented. He defines the Germanapproach to innovation as follows: “Closely bound up with the provision ofpublic goods, the principal purpose of these policies is to diffuse technologicalcapabilities throughout the industrial structure, thus facilitating the ongoing andmainly incremental adaptation to change” (p. 450). In addition, he argues that“diffusion-oriented policies seek to provide a broadly based capacity foradjusting to technological change throughout the industrial structure. They arecharacteristic of open economies where the state, bearing the interests of thefirms in mind, aims at facilitating change rather than directing it.”

As Streeck (1991), Sorge (1991), Audretsch (1989) and others have pointedout, the most significant feature of the German economic model is the depth andbreadth of investment in human capital and the enhancement of workforceskills. In the German approach, workers are trained to possess the capabilitiesand competencies to increase the value of existing technologies throughincremental and continuous improvements in products and processes.Embodied in the average worker is a high level of human capital.

By contrast, the national system of innovation in the United States has beentypically characterized as being focused on radical or breakthrough innovativeactivity (Nelson, 1992; Ergas, 1998). Training workers to possess thecompetencies to produce goods on existing technological trajectories is givenlower priority than educating fewer workers to develop new ideas that lead tothe creation of new products, processes and even industries.

Innovations can be considered to be incremental when they are compatiblewith the core competence and technological trajectory of the firm (TeeceandPisano, 1994). The implementation of such incremental innovations does notrequire significant change in the firm or its personnel. By contrast, a radicalinnovation can be defined as extending beyond the boundaries of the corecompetence and technological trajectory of the firm. Implementing a radical


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innovation would require significant restructuring in the firm and its personnel.The managed economy was designed to absorb change within a giventechnological paradigm, and hence, the typical firm excelled at incrementalinnovation. By contrast, in the entrepreneurial economy, the capacity to breakout of the technological lock-in imposed by existing paradigms is enhanced.

POSTWAR COMPETITIVE ADVANTAGE

The industry life-cycle theory introduced by Raymond Vernon (1966) linkstrade and foreign direct investment to the stage of the life-cycle. No directimplications regarding the relevance of radical versus incremental innovationsappear to prevail. But a more thoughtful examination of the framework of theindustry life-cycle approach suggests that the relative importance of radicalversus incremental innovations is shaped by this cycle.

Several versions of what actually constitutes the industry life cycle havebeen advanced. For example, Oliver Williamson (1975, pp. 215-216) hasdepicted the industry life cycle in three terms:

Three stages in an industry’s development are commonlyrecognized: an early exploratory stage, an intermediatedevelopment stage, and a mature stage. The first or early formativestage involves the supply of a new product of relatively primitivedesign, manufactured on comparatively unspecialized machinery,and marketed through a variety of exploratory techniques. Volumeis typically low. A high degree of uncertainty characterizesbusiness experience at this stage. The second stage is theintermediate development state in which manufacturing tech-niques are more refined and market definition is sharpened, outputgrows rapidly in response to newly recognized applications andunsatisfied market demands. A high but somewhat lesser degree ofuncertainty characterizes market outcomes at this stage. The thirdstage is that of a mature industry. Management, manufacturing, andmarketing techniques all reach a relatively advanced degree ofrefinement. Markets may continue to grow, but do so at a moreregular and predictable rate . . . established connections, withcustomers and suppliers (including capital market access) alloperate to buffer changes and thereby to limit large shifts in marketshares. Significant innovations tend to be fewer and are mainly ofan improvement variety.


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While not explicitly stated by Vernon (1966) or Williamson (1975), the roleof R&D does not stay constant over the industry life cycle. In the early stages ofthe life cycle, R&D tends to be highly productive, so that there are increasingreturns to R&D. Indeed, radical innovation tends to initiate new industries. Inaddition, the costs of radical innovation tend to be relatively high while the costof incremental innovation and imitation tend to be relatively low. Becauseinnovation in newly emerging industries tends to be more radical and lessincremental, it is more costly to diffuse for economic application in lower-costlocations.

By contrast, as an industry evolves over the life-cycle, the cost of radicalinnovation tends to increase relative to the cost of incremental innovation andimitation. Strong diminishing returns to radical innovative activity set in. Thisis not the case for incremental innovation and especially imitation. Animplication is that it requires an increasing amount of R&D effort to generate agiven amount of innovative activity as an industry matures over the life cycle.At the same time, it requires a decreasing amount of R&D expenditures totransfer new technology to lower cost locations, because innovation activitytends to become less radical and more incremental (Dosi, 1982 and 1988; andNelson, 1990 and 1995).

This means that information generated by R&D in mature industries can betransferred to lower-cost locations for economic commercialization. Bycontrast, the knowledge resulting from R&D in newly emerging industriescannot be easily transferred to lower-cost locations for economiccommercialization. Thus, under the managed economy incremental innovativeactivity along with diffusion played a more important role. This type ofinnovative activity, while often requiring large investments of R&D, generatedincremental changes in products along the existing technological trajectories.In the entrepreneurial economy, the comparative advantage of the high-costlocation demands innovative activity earlier in the life-cycle. Early stageinnovative activity consists of radical innovation, which is more involved increating and developing new technological trajectories rather than followingexisting technological trajectories.

In perhaps the most famous version of the industry life cycle model,introduced by Raymond Vernon, it was assumed that (1) the U.S. was the soletechnological leader and the sole economic leader; (2) Germany was a follower,and (3) industries evolve over a technological life cycle, which istechnologically driven by a declining innovative output from a constant input ofnew technological knowledge. As the technological leader, the United Statesexperienced relatively high productivity, high average wages and non-wagebenefits. According to Giersch, Pacque and Schmieding (1992), the German


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Wirtschaftswunder was fueled to a considerable extent by relatively low laborunit costs and an undervalued currency. Thus, technology developed in the U.S.could simply be adapted. The end result was lower unit costs of production andinternational competitiveness in Europe. This implies that radical innovationcan and will disperse. As Germany caught up to the technological frontier withthe United States, German wages and non-wage income ultimately surpassedU.S. levels. For example, in 1995 the mean manufacturing employeecompensation (including insurance and other employee benefits) was $25.71per hour in Germany and $16.73 in the U.S.

THE IMPACT OF GLOBALIZATIONON COMPETITIVE ADVANTAGE

Germany’s postwar comparative advantage in the traditional industries hasbeen lost in the last decade for two reasons. The first has to do withglobalization, or the advent of competition from not just the emergingeconomies in Southeast Asia but also from the transforming economies ofCentral and Eastern Europe. While the uncertainties of the Cold War andinternal political instabilities rendered transnational activities too risky duringthe first four postwar decades, this is less the case today. Costs of production,particularly labor costs, are considerably lower in these countries and jobs havemoved to these locations. At the same time, the potential labor force of about500 million in China and 350 million in India will put pressure on any increasein wage rate.

The second factor triggering the loss of the traditional comparativeadvantage in Europe has been the communications revolution. Newcommunications technologies have triggered a virtual spatial revolution interms of the geography of production. The (marginal) cost of transmittinginformation has been reduced to virtually nothing. Confronted with lower costcompetition in foreign locations, producers in the high-cost countries have threeoptions apart from doing nothing and losing global market share: (1) reducewages and other production costs sufficiently to compete with the low-costforeign producers; (2) substitute equipment and technology for labor to increaseproductivity; and (3) shift production out of the high-cost location and into thelow-cost location.

Many European and American firms that have successfully restructuredresorted to the last two alternatives. Substituting capital and technology forlabor, along with shifting production to lower-cost locations has resulted inwaves of corporate downsizing throughout North America and then Europe.This strategy has generally preserved the viability of many of the large


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corporations. As the record levels achieved in the 1990s by both European andAmerican stock indexes indicate, the companies have not generally suffered.For example, between 1979 and 1995 more than 43 million jobs were lost in theUnited States as a result of corporate downsizing.7 This includes 24.8 millionblue-collar jobs and 18.7 million white-collar jobs. Similarly, the 500 largestU.S. manufacturing corporations cut 4.7 million jobs between 1980 and 1993,or one quarter of their work force. Perhaps most disconcerting, the rate ofcorporate downsizing has apparently increased over time in the U.S., even as theunemployment rate has fallen. During most of the 1980s, about one in twenty-five workers lost a job. In the 1990s this has risen to one in twenty workers.

This wave of corporate downsizing has triggered cries of betrayal and lackof social conscience on the part of the large corporations. But it is a mistake toblame the corporations for this wave of downsizing that has triggered massivejob losses and rising unemployment in so many countries. These corporationsare simply trying to survive in an economy of global competitors who haveaccess to lower cost inputs.

COMPETITIVE ADVANTAGE BASED ON INNOVATION

There is, however, an alternative that requires neither sacrificing wages tocreate new jobs nor restrictive manipulations of the labor market to maintainwage levels and the social safety net. This third alternative involves shiftingeconomic activity out of the traditional industries where the high-cost countriesof Europe and North America have lost their comparative advantage and intothose industries where the comparative advantage is compatible with both highwages and high levels of employment—knowledge-based economic activity.

A recent body of empirical evidence clearly suggests that R&D and othersources of knowledge not only generate externalities, but studies by Audretschand Feldman (1996), Jaffe (1989), Audretsch and Stephan (1996), Feldman(1994a and 1994b), and Jaffe, Trajtenberg and Henderson (1993) suggest thatsuch knowledge spillovers tend to be geographically bounded within the regionwhere the new economic knowledge was created. That is, new economicknowledge may spillover but the geographic extent of such knowledgespillovers is limited.

The idea that geographic location is important to innovative activity in aworld of e-mail, fax machines and cyberspace may seem surprising and evenparadoxical.8 The resolution of the apparent paradox lies in a distinctionbetween knowledge and information. Information, such as the price of gold onthe New York Stock Exchange, or the value of the yen in London, can be easilycodified and has a singular meaning and interpretation. By contrast, knowledge


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is vague, difficult to codify and often only serendipitously recognized. Whilethe marginal cost of transmitting information across geographic space has beenrendered invariant by the telecommunications revolution, the marginal cost oftransmitting knowledge, and especially tacit knowledge, rises with distance.

Von Hipple (1994) demonstrates that highly contextualized, uncertain,tacit, or what he terms sticky knowledge is best transmitted via face-to-faceinteraction and through frequent and repeated contact. Geographic proximitymatters in transmitting knowledge, because as Kenneth Arrow (1962) pointedout some three decades ago, such tacit knowledge is inherently “non-rival” innature, and knowledge developed for any particular application can easilyspillover and have economic value in very different applications. As Glaeser,Kallal, Scheinkman, and Shleifer (1992, p. 1126) have observed, “intellectualbreakthroughs must cross hallways and streets more easily than oceans andcontinents.”

Together, globalization and the telecommunications revolution havedrastically reduced the cost of transporting not just material goods but alsoinformation across geographic space. High wages are increasinglyincompatible with information-based economic activity, which can be easilytransferred to a lower cost location. By contrast, the creation of new ideas basedon tacit knowledge cannot easily be transferred across distance. Thus, thecomparative advantage of the high-cost countries of North American andWestern Europe is increasingly based on knowledge-driven innovative activity.The spillover of knowledge from the firm or university creating that knowledgeto a third-party firm is essential to innovative activity. Such knowledgespillovers tend to be spatially restricted. Thus, an irony of globalization is thateven as the relevant geographic market for most goods and services becomesincreasingly global, the increased importance of innovative activity in theleading developed countries has triggered a resurgence in the importance oflocal regions as a key source of comparative advantage.

THE AMERICAN KNOWLEDGE-BASEDENTREPRENEURIAL ECONOMY

What we described above is usefully conceived as search activity, or thecreation and application of new ideas resulting in new economic knowledge.We also asserted that search activity cannot be transferred costlessly acrossgeographic space. Economic activity engaged in the search process isinherently different from economic activity that is routinized. Routinizedeconomic activity, by definition, is relatively certain. It is known what should beproduced, how it should be produced, who will produce it, and for whom it will


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be produced. Search economic activity, however, is characterized byuncertainty. Inherent in search activity is uncertainty with respect to whatactually should be produced, how it will be produced, for whom it should beproduced, and who will produce it. Thus, search activity depends crucially onthe creation of new ideas—that is, knowledge—and on the evaluation of thatknowledge.

New and small firms are particularly important because they provide theopportunity for people to implement new ideas that otherwise would be rejectedor remain unexplored. In this way, new firms serve as agents of change. In aneconomy where comparative advantage is based on radical innovation, theability of people to generate new ideas and pursue them is a central forcegenerating high wages and an increasing standard of living.

An economy whose comparative advantage is radical innovation requires adifferent industrial structure and a very different set of economic values. Peoplewho can create new ideas and implement them become highly valued. Becausethe global market for new products is virtually limitless, there is demand forworkers, but the supply of workers able to produce innovative products islimited. Of course, the degree of uncertainty dictates that many of the new ideas,and therefore many new firms, will not, in fact, prove to be viable or successful.Those firms, and workers, abandon unsuccessful attempts and move on. Thus,the knowledge-based economy is in motion and is characterized by a highdegree of mobility of people starting new firms to pursue, explore or implementnew ideas. Those new firms that prove to be viable grow rapidly and expandemployment. Those new firms based on an idea that is not viable will stagnateand ultimately exit the industry. What appears to be a turbulent and wastefuleconomy is actually the process by which new ideas are generated and explored,ultimately creating new high-paying jobs to replace those lost due todownsizing.

The American industrial landscape has been transformed in a relativelyshort period of time from a static and rigid economy dominated by largecorporations such as IBM, U.S. Steel and RCA to an economy in full motionwhere new firms are generating not just most of the new jobs, but also creatingnew industries. In the 1950s and 1960s it took two decades for one-third of the500 largest corporations in America to be replaced. In the 1970s it took theentire decade to replace one-third of the 500 largest corporations. By contrast,in the 1980s, it took just five years. Perhaps even more impressive than thehandful of new enterprises that grow to penetrate the elite club of corporategiants are the armies of startups that come into existence each year—andtypically disappear into oblivion within a few years. In the 1990s there havebeen around 1.3 million new companies started each year in the U.S. The


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knowledge-economy is characterized by a high degree of turbulence. It is aneconomy in motion, with a massive number of new firms entering each year, butonly a subset surviving for any length of time, and an even smaller subset, suchas Microsoft and Intel, that ultimately become the new corporate giants.

In the 1950s and 1960s the most important industries in the United Stateswere steel and automobiles, along with other heavy manufacturing industries.In the present decade information technology has emerged as the largest U.S.industry. Information technology, which includes computing and communica-tions, has grown by 57 percent during the 1990s, to $866 billion. In 1996 4.3million workers were employed in information technology, at a mean wagelevel 73 percent higher than that prevailing in the private sector. Similarly, inSilicon Valley the mean wage level is 50 percent greater than in the rest of thecountry and at the same time, employment increased by 150,000 jobs, or 15percent, between 1992 and 1996.

The policy response to this new view of the knowledge production functionhas been to shift away from targeting outputs to focusing on inputs. Inparticular, this involves the creation and commercialization of knowledge.Examples include the promotion of joint industry, R&D programs, the transferof technology from universities, education and training programs, and policiesto encourage people to start new firms. As Saxenian (1985, p. 102) points out,“Attracting high-tech has become the only development game of the 1980s.”Justman (1995) and Justman and Teubel (1986) show how investment inscientific and technical infrastructure provides an important source of growth.The provision of venture and informal capital to facilitate the creation andgrowth of new firms has moved to center stage in policy debates (Hughes, 1997;Mason and Harrison, 1997). Laura Tyson (1994), former chair of the Councilof Economic Advisors in the Clinton administration, emphasized theimportance of government policies to promote entrepreneurship and new-firmstartups.

Audretsch and Feldman (1996) argue that industrial policies targeting theproduction and commercialization of new economic knowledge will have agreater impact on particular regions and will not diffuse rapidly acrossgeographic space. They point out that knowledge spillovers are a key source ofnew knowledge generating innovative activity, but due to the tacit nature of thatknowledge, knowledge flows tend to be geographically bounded. By creatingregions of knowledge-based economic activities, government policies cangenerate highly concentrated innovative clusters.

As long as the major policy issue was restricting large, oligopolistic firmsin command of considerable market power, a federal or national locus of controlwas appropriate. This is because the benefits and costs derived from that market


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power are asymmetric between the local region where the firm is located and thenational market, where the firm sells its product. Not only was productionconcentrated in one or just several regions, but the workers along with theancillary suppliers also tended to be located in the same regions. These workersas well as the community at large share the fruits accruing from monopolypower. Systematic empirical evidence (Weiss, 1966) shows that wages arepositively related to the degree of market power held by a firm, even aftercontrolling for the degree of unionization. Higher profits resulting from marketpower are shared by labor. Thus workers and firms in the region have the sameinterest.

As Olson (1982) shows, relatively small coalitions of economic agentsbenefiting from some collective action tend to prevail over a large group ofdispersed economic agents each incurring a small cost from that action. Thecosts of organizing and influencing policy are relatively low for the smallcoalition enjoying the benefits but large for the group of dispersed economicagents. Government policies to control large oligopolistic firms withsubstantial market power were not likely to be successful if implemented on thelocal level. Rather, as Olson (1982) predicts, a regional locus of policy towardsbusiness tends to result in the capture of policy by the coalition of local interestsbenefiting from that policy. Only by shifting the locus of policy away from theregion to the national level can the capture of policy by special interest groupsbe minimized. This is because the negative effects of market power in the formof higher prices are spread throughout the national market while the benefitsaccruing from that power are locally concentrated.

Many economists interpret the downsizing of the federal agencies chargedwith the regulation of business as the eclipse of government intervention. But tointerpret the retreat of the federal government as the end of public interventionis to confuse the downsizing of government with a shifting of the locus ofgovernment policy away from the federal to the local level. The last decade hasseen the emergence of a set of enabling policy initiatives at the local level. Thisnew type of industrial policy is decentralized and regional in nature. AsSternberg (1996) emphasizes in his review of successful technology policies inthe four leading technological countries, the most important industrial policiesin the last decades have been local not national. They have occurred in locationssuch as Research Triangle, NC (Link, 1995), Austin, TX and Cambridge(U.K.). Sternberg (1996) shows how the success of a number of different high-technology clusters spanning the four most technologically advanced countriesis the direct result of enabling policies undertaken at the regional level.

Eisinger asks the question, “Do American States Do Industrial Policy?” ina 1990 article published in the British Journal of Political Science. Lowery and


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Gray (1992) confirm Eisinger’s affirmative answer by analyzing the impact ofstate industrial policy in the United States. They develop a new data set on grossstate product and a new measure of state industrial policy activism. Their resultssuggest that the implementation of industrial policy at the state level tends topromote growth. In addition, Feller (1997, p. 289) points out that “in theory andimplementation, state technology development programs—as in Texas, Ohio,New York, New Jersey, and Pennsylvania—may be viewed as bands on a widespectrum from basic research to product development, with the ends reflectingquite divergent state strategies.” In an example, the Advanced ResearchProgram in Texas has provided support for basic research and the strengtheningof the university infrastructure, which played a central role in recruiting MCCand Sematech and developing a high-tech cluster around Austin. And, theThomas Edison Centers in Ohio, the Advanced Technology Centers in NewJersey, and the Centers for Advanced Technology at Case Western ReserveUniversity, Rutgers University and the University of Rochester have supportedgeneric, pre-competitive research. This support has generally provideddiversified technology development involving a mix of activities encompassinggeneric research, applied research, and manufacturing modernization through abroad spectrum of industrial collaborators spanning technology-intensivemultinational corporations, regional manufactures and new-firm startups.

This shift in the locus of policy is the result of two factors. First, because thesource of comparative advantage is knowledge, which tends to be localized inregional clusters, public policy requires an understanding of region-specificcharacteristics and idiosyncrasies. As Sternberg (1996) concludes, regionalstrengths provide the major source of innovative clusters. The second factor isthat the motivation now underlying government policy is growth and thecreation of (high-paying) jobs, largely through the creation of new firms. Thesenew firms are typically small and pose no oligopolistic threat in national orinternational markets. There are no external costs imposed on consumers in thenational economy in the form of higher prices as in the case of a largeoligopolistic corporation in possession of market power. There is no reason thatthe promotion of local economies imposes a cost on consumers in the nationaleconomy, so that localized industrial policy is justified and does not result inany particular loss incurred by agents outside of the region.

THE GERMAN RESPONSE

Germany has never been at a disadvantage in producing basic knowledge.However, the fundamental character of tacit knowledge, which involves highuncertainty, knowledge asymmetries and a high cost of transacting that


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knowledge, makes it difficult for the holders of that knowledge in Germany toappropriate its value. That is, it is difficult and costly to convince hierarchicalbureaucracies in existing organizations of the perceived value of new ideas in aworld of uncertainty and high asymmetries.

Empirical evidence suggests that Germany has not generated a vibrantsector of new firms and new industries. An irony is that the small and medium-sized companies of Germany, the Mittelstand, were the backbone of theindustrial structure throughout the period of postwar prosperity. But thesemittelständische firms are typically family held in traditional industries.Innovation has been the competitive hallmark but the targeted industries havelow growth potential. New firms in new industries are much rarer. One of themost repeated phrases on the pages of the business news over the last monthshas been what Helmuth Gömbel, research director of the Gartner Group inMunich, observed: “Put Bill Gates in Europe and it just wouldn’t have workedout.” Similar sentiment was expressed by Joschka Fischer, then parliamentaryleader of the Green Party and now foreign minister in Germany, who laments,“A company like Microsoft would never have a chance in Germany.” Thus,although small firms have been a unique strength of postwar German industrialsuccess, ironically, at the heart of the current German economic crisis are alsosmall firms.

Why has Germany been unable to grow the German equivalent of aMicrosoft? Der Spiegel observed recently that “Global structural change hashad an impact on the German economy that only a short time ago would havebeen unimaginable: many of the products, such as automobiles, machinery,chemicals and steel are no longer competitive in global markets. And in theindustries of the future, like biotechnology and electronics, the Germancompanies are barely participating.”9

A number of the core institutions of the German economic model thatserved as a catalyst for the Wirtschaftswunder in a routinized economy pose asbarriers to entrepreneurship and structural change in an entrepreneurialeconomy. For example, a proclaimed virtue of the German banking system inparticular and financial systems in general is that by allowing bank ownershipof private companies, the companies avoid the types of liquidity constraintsmore commonly experienced by firms on the other side of the Atlantic. Whilethe empirical evidence generally supports this view, it is also a double-edgedsword, because it tends to be the large, incumbent companies—typically tied toexisting technological trajectories in traditional industries—that receive agenerous flow of cash from the banks. What has been overlooked is thedifficulties that outsiders and entrepreneurs with new and different ideas aboutdoing something have in procuring funding. At the same time there has been


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only negligible venture capital and informal capital markets developed tochannel finance into projects involving new and different industries. Equityinvestment in small firms is scarce. Although the stock market established aregulated bourse for small firms in 1987, only seven small companies floatedshares in 1993 and just four in 1994.

Like most European countries, Germany does not allow companies thathave not had five years of profit to post an initial public offering (IPO) on thetraditional stock exchange. In reaction to the growing need for financing by newtechnology-based firms and exit options for venture capitalists a new marketsegment was established at the stock exchange in 1997 called Neuer Markt. Inaddition, traditional stock options were heavily taxed. However, tax laws haverecently been amended to favor reinvestment of profit from shares. Without theability to take the company public quickly, venture capitalists are wary ofinvesting in start-ups. In addition, the lack of bankruptcy protection in Germanycreates a strong disincentive for individuals to take the risks necessary to starta new company. Nor has the banking sector been a conduit of loans for newbiotechnology ventures. In addition, very few tax credits are extended to makeinvestment in high technologies less onerous for small companies, as hasoccurred in the United States. For example, a software firm that was founded inBavaria, FAST, needed more capital to fund product development. But afterhaving been turned down by financial and non-financial institutions alike, thefounder, Matthias Zahn, is not only planning an Initial Public Offering on theNASDAQ, but also planning to move the company’s headquarters from Bavariato Redwood City, California.10 This is no isolated example. Scores ofentrepreneurs in newly emerging industries, ranging from computer softwareand hardware to biotechnology and visual reality have engaged in a kind ofAuswanderung, or emigration, in order to appropriate the expected value oftheir technological knowledge.

The research and education system, and in particular the universities,contributed to the slower and more rigid nature of German innovation. Theuniversity system restrains the activities of its professors and knowledgeworkers. As civil servants, strict regulations limit the amount of contractresearch or consulting work that faculty can accept, thus hindering the transferof technologies to the private sector. In addition, a rigid employment structureraises to unacceptable levels the risk associated with joining or creating newventures. If a start-up fails, its scientists will have great difficulty findingemployment elsewhere at mid-career.

Economic theory focuses on static economic welfare losses, but this is atype of dynamic economic welfare loss in the form of foregone technologicalknowledge and economic externalities that would otherwise have been accrued


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in Germany. That such technological knowledge in its early stages flows outfrom Germany reflects institutions and policies impeding entrepreneurship.Large tracts of Germany’s institutional matrix, ranging from finance to labormarket and extending even to the education system were developed and excel inthe transfer and application of technological knowledge in traditional industriesbut not in emerging industries. These types of institutions are conducive tochanneling resources into economic activities where it is more or less knownwhat is to be produced, how it should be produced and who should produce it.They are ineffective in channeling resources into search activity.

Labor market institutions also may tend to impede the development of newfirms pursuing different ideas. For example, SPEA Software is a new startupbased near Munich.11 This developer of multimedia equipment boosted its salesby 60 percent last year to about 180 million DM and got Germany’s biggest-yetinjection of venture capital. SPEA has been met with opposition from Germanunions because its 130 employees are not unionized and it does not yet belongto an employer’s association. It is thus not part of the centralized system of laborrelations to which most of German industry belongs.12 Similarly, tax laws forcethe chief executive officers of new companies to start paying out dividends fromearnings almost as soon as they appear, preempting high reinvestment policies.And bankruptcy laws in Germany make it clear that to start a new business andto fail is socially stigmatizing. After two bankruptcies the entrepreneur is leftwith the sole option of becoming an employee. He may not legally rely upon hisexperience from the bankruptcies to start a third new enterprise.13

THE COMING GERMAN ENTREPRENEURIAL RENAISSANCE?

Perhaps more than any other country, Germany has the capabilities requiredof a knowledge-based entrepreneurial economy. Its labor force and populationare among the best educated and well-trained in the world. The communicationsand transportation infrastructures are also among the best in the world. Germancities are cultural centers, devoid of ghettos, have a minimum of crime andgenerally enhance the spirit. Such cities could easily transform into clusters forknowledge-based economic activity. The five new Bundesländer are oftenviewed as posing a burden on the more prosperous western part of the country,but they are also a rich source for future entrepreneurship. People in the fivenew Bundesländer are less tied to the policies, institutions and ultimately thevalues that propelled West Germany to becoming one of the most prosperouscountries in the world. Yet unification has created high levels of unemploymentamong the scientific elite. For example, 1,400 Ph.D.-level scientists became


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unemployed in Berlin-Brandenburg in 1994 and many found that their bestemployment opportunities were in entrepreneurial start-ups.

The closure of many East German research institutions, such as theprestigious National Academy of Science and the state research centers, leftmany unemployed, yet highly-skilled researchers and academicians needingemployment that could only be provided by the private sector. The federal andlocal (Länder) governments have been aggressive in initiating projects thatfoster entrepreneurship in general and target specific industries such asbiotechnology.

Germany also has established an impressive social safety net, which willprove to be an asset in an entrepreneurial economy. In the United States, anumber of benefits, such as health and retirement, are typically linked to thefirm where a worker is employed. There is considerable documentation that theperceived loss of such benefits is a barrier to mobility and a barrier toentrepreneurship. In Germany, where the social safety net is more extensive andless tied to the individual employer, such barriers to mobility andentrepreneurship are less important. Perhaps most importantly, there is a deepand long tradition of Handwerk, or craft work in the country, which provides atradition for appreciating independent and creative self-employment. Thus,there are a number of compelling reasons to be optimistic about Germanyfinding its way out of the current unemployment problems. But it will need tocombine its older traditions with a zweite Gründerzeit to modify the economicmodel, which has served the country so well during the postwar era.

CONCLUSIONS

Globalization has resulted in record postwar levels of unemployment inGermany and an unprecedented and growing wage gap in the U.S. The ensuingpolicy debate raging on both sides of the Atlantic presents policy makers witha rather depressing choice between what is characterized as the AmericanModel versus the German Model. The American Model has generated millionsof new jobs during the last fifteen years—but at the apparent cost of low wagesand a weakening of the social safety net and social sustainability. By contrast,the German Model has maintained wages and the key institutional features ofthe Sozialmarktwirtschaft, but also at a cost—chronically high persistent ratesof unemployment. This debate suggests that there is a policy tradeoff to bemade. Policymakers can have one—jobs or Wohlstand—but only by sacrificingthe other, and in any case, both social goals are unattainable simultaneously.There is, however, a new, emerging economic model that is largely overlookedin this policy debate. This third way is centered on shifting economic activity


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away from all the factors that globalization and the telecommunicationsrevolution have rendered transportable across geographic space—first,physical capital and finance, and most recently information. The paradox ofglobalization is that by eliminating the cost of transferring information aroundthe globe, economic activity based on routinized economic activity is no longercompatible with high wages. Rather, the comparative advantage of a high-wageStandort has shifted to knowledge-based economic activity, where location andgeographic proximity matters more than ever. This new, emerging economicmodel combines the institutions generating knowledge and skills along withthose diversifying the social risk involved in knowledge-based economicactivity that were at the core of the German economic model, along with thoseinstitutions facilitating the commercialization of knowledge throughentrepreneurship that has been pervasive in the American model.

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ENDNOTES

1. We are grateful to the participants at the May 1998 and November 9, 1999, projectmeetings for their insightful comments and suggestions on an earlier version of thispaper.2. David B. Audretsch, “How Germany Can Create Jobs,” Wall Street Journal Europe,12 January 1999, Op-Ed page.3. “Schroeder Treies for Consensus in Fight to Cut Jobless Rate,” New York Times, 8December 1998, p. A8.4. “Die Not von damals und der ‘Hungerkanzler’” Die Zeit, 14 March 1997, p. 92.5. “Deutschland vor dem Absturz?” Stern, 13 February, 1997.6. “Die Not von damals und der ‘Hungerkanzler’” Die Zeit, 14 March 1997, p. 92.7. “The Downsizing of America,” New York Times, 3 March 1996, p. 18. According to The Economist, “The death of distance as a determinant of the cost ofcommunicatiosn will probably be the single most important economic force shapingsociety in the first half of the next century,” “The Death of Distance,” The Economist, 30September 1995.9. Der Spiegel, number 5, 1994, pp. 82-83.10. “German Innovation: No Bubbling Brook,” The Economist, 10 September 1994, pp.75-76.11. “Those German Banks and Their Industrial Treasures,” The Economist, 21 January1994, pp. 77-78.12. “Where’s the Venture Capital?” Newsweek, 31 October 1994, p. 44.13. “Out of Service,” The Economist, 4 February 1995, pp. 63-64.

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GLOBAL CAPITALISM AND THE POLITICS OF SOCIAL POLICYREFORM IN GERMANY AND THE UNITED STATES

Elmar Rieger

“The trial by market everything must come.” —Robert Frost, Christmas Trees

INTRODUCTION

At the end of the century Germany and the United States seem to be worldsapart. One knowledgeable American observer of the German situation,Professor Peter Hall of Harvard University, wrote that “those who argue that theGerman system is currently experiencing its greatest crisis since the war areprobably correct” (Hall 1997: 313). Unemployment has climbed to levelsresembling those of the Weimar Republic with no sign of relaxing. The dismalperformance of the labor market puts a question mark on the so-called Germanmodel of a coordinated economy married to a transfer-rich welfare state. In theUnited States, however, the predominant mood is having reached the PromisedLand of steady growth, very low unemployment and minimal inflation (Weber1997). Compared to the situation ten years ago this reflects a remarkable turningof the tables. Despite disagreement of exactly what did the job, an Americanmodel of some sort or another was furnished with a big exclamation point as thebetter example for the world to heed.

Leaving aside the metaphysics of models and the antics of their media-driven business cycle, the two countries do have one thing in common. Theinstitutions of social policy have come under attack for very similar reasons.Means-tested anti-poverty programs seem to have lost their raison d’être. It isalleged that instead of offering a means of very last resort, they create incentivesnot to participate in labor markets, or assist in creating poverty traps. Their“benefits,” therefore, are thought to be more part of the problem than a solutionto poverty and destitution. Also the claim that those social security programscatering to the needs of the middle classes hand out money to groups who shouldbe able to care for themselves has gained influence in both countries. Andfinally, as the other side of the coin, with the renaissance of (stock) marketcapitalism the yardstick weighing costs and benefits of publicly produced socialsecurity and services has changed. In both countries the members ofcompulsory social insurance programs, in particular those for the elderly, thinkabout the amount of benefits in terms of a return on their investment, whichcompares not very favorably with what they think they could get in the marketfor the hefty contribution rates they are forced to pay.


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At heart, these arguments are as old as the welfare state itself. This is notto deny their rationale or legitimacy. Practicability, or political feasibility inacting on them, is quite another matter. There is reason to believe that in ademocratic polity the tandem of a competitive party system and a mature socialpolicy state not only features some peculiar evolutionary risks but presents adifferent challenge to adjust to new economic realities than a polity withrestricted social policies. This is all the more the case since social policy is alsoabout something else.

At issue are not only the social effectiveness and the cost efficiency ofsocial policy. These are, in a way, matters that could be dealt with, at least intheory, in some straightforward way. But global capitalism revealed twoaspects of social policies that did not get much attention until now. One is theirrole in the creation and destruction of jobs. The other is their part in producingacquiescence to freer trade.

It is the individual, and essentially uncoordinated, decision making ofcompanies old and new in the management of their personnel and thearrangement of their value chain, particularly the geographic location of itsdifferent parts, which in the final analysis adds up to outcomes of labor marketsdeemed to be good or bad in terms of the overall welfare of the population.Companies have a choice, even more so with the advent of global capitalism.The price they have to pay for labor in a given place will be of consequence.Despite all the talk about the “coordinated” German economy, basically it is theprice of labor arrived at in competitive markets that determines jobopportunities. All social regulations and all economic rights in the workplacewill find their reflection in the price for labor, as will the individual’s skills,knowledge and motivation. Shifts in relative value of labor due to technologicalprogress that do not result in appropriate changes in the price of labor will, ineffect, result in unemployment. If, for whatever reason, price changes do notoccur, this is unfortunate not only for those workers without jobs, but also forthose interested in a better return on their investments. Notwithstanding all thehardware of globalization that free companies from governments—e.g.,telecommunications and transportation systems—they still have to operate in asocial policy context which gives workers opportunities to commit themselvesto the job, to cooperate with the management of change or to resist (Wolff1996).

Conventional wisdom says that governments cannot turn off globalizationat will because it is driven by a technology they cannot control. But hardwarealone is, well, just hardware. It needs people to make use of it—entrepreneurseager to explore new opportunities and workers being creatively responsive tothem. And in that respect governments still play a major role. It should not be

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forgotten that despite all the more than adequately efficient hardware availablein their time, former incarnations of global capitalism actually were severelyconstrained (Williamson 1998). The trend toward growing world marketintegration is reversible (Krugman 1995: 328). One major factor accounting forthis possibility is a political backlash driven by those groups whose incomes andstatus seem to be endangered by the dynamics of global capitalism and importcompetition. Imaginary or true, people act on their fears, and will easily findpoliticians eager to get their vote in return for protectionism—as has happenedagain and again in the past, in country after country. In the actual managementof foreign economic affairs, free trade is an exception (Rieger/Leibfried 1998).People in the majority are risk averters and they think it “unfair” to allowanyone’s real income to be reduced significantly because of external effectsgovernments can or should control “in theory.”1 This is a factor of majorimportance in particular within mass democracies with a competitive partysystem. However, the income maintenance motivation of tariffs and otherbarriers to trade so important in the past loses its rationale with theinstitutionalization of social policies properly. The secret of the success ofGATT is the rise of the welfare state. There can be little doubt that the massiveexpansion of social security and income maintenance through public policies inthe fifties and sixties was indispensable, since it allowed governments to get ridof protectionism. By implication, differences in social policies with regard toactually maintaining income and status will mean different possibilities forgovernments to engage their countries in policies of free trade and to accept therisk of import competition without having to fear punishment at the polls.

The first question to be asked, therefore, is this: do the actual forms of socialpolicy impede, or do they further the development and the maintenance of freeand open markets—be it for labor or for goods and services? If they impede,what changes are necessary to make them more attuned to the realities of globalcapitalism and to the problems companies are confronted with in theirpredicament of constant restructuring? In answering this question a second onearises: does their particular efficacy in the different dimensions—job creation,freeing trade, but also social effectiveness and cost efficiency—add up in alinear way, or will there be trade-offs?

The remainder of this paper expands upon these questions, beforeformulating (some) answers. The expansion proceeds in two ways. First, themanifestations of global capitalism in changing structures of industries’ andcompanies’ organization and what they mean for existing social policies aredescribed in more detail. Second, selective information is provided on recentchanges in the social policies of the two countries. Finally, the paper providesan explanation of the unexpected path social policy reforms have followed in


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Germany given the determination of global capitalism, and why in the U.S. theactual reforms, despite apparently obeying the imperatives of global capitalism,may have paradoxical consequences.

PATHS OF GLOBAL CAPITALISM

Changing Markets and IndustriesTechnological innovations of the last two decades brought about sharp

reductions in the costs of transportation and communication, thereby limitingthe autonomous role of geography for industrial structure. Partly driven bythese developments, and partly for reasons of their own, governments either inunison or unilaterally lowered barriers to trade. The internal deregulation ofindustries, albeit with uneven results if one looks across countries, was in mostcases accompanied or followed by tariff reductions and abandonment of othercontrols on imports.

The effects are well known. From 1983 onwards trade in goods grew twiceas fast as output. The cumulative percentage increase of merchandise exportsthrough 1993 amounted to 70.5 percent, the corresponding increase in output34.6 percent (Preeg 1995: 12-3). Foreign Direct Investment (FDI) has becomedominant in shaping the world economy. Not only politically, alsoeconomically, the year 1989 marked a threshold. For the first time sales of theforeign affiliates of multinational companies exceeded the value of world trade.Throughout the 1980s growth rates of FDI flows have been higher than those ofworld trade (Dunning 1997: 9).

One of the effects of business’ globalization drive highly significant forsocial policy reform in particular is the increase in the degree of internationalcontestability of markets.2 Costs of entry to foreigners have decreased, and thesecular shift from an industrial to a service and information economy reducedthe magnitude of unavoidable sunk costs, thereby also decreasing the costs ofexit. In a historical perspective, however, tariffs and a broad range offunctionally equivalent barriers to international commerce have brought aboutdistinctive national structures of industry in which social policies became apowerful factor in shaping the organization of companies and determining theirbehavior both on the market place and in the political arena. It is, therefore,mainly this externally caused change in structural contestability of hithertonationally fragmented and politically controlled markets that challenges theexisting configuration of state and market and the institutional format of socialpolicies. These two factors determine what sorts of problems countries have inadjusting to the new economic reality and how severe they are likely to be.Whereas in the past insulation of national economies facilitated the adoption of

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labor market regulations and transfer systems, mostly in the form of socialinsurance programs, the new structure of markets and industries not only setsstrict limits to distributive concerns, but also results in major social and politicalproblems because of the now apparent incompatibility of fundamentallychanged markets and still stagnant social policies. At question, however, is lessthe desirability of social goals, but more the ways and means of achieving them.

One crucial feature of a sustainable configuration of social policies is theabsence of any hidden, but cost-effective, regulation and cross subsidization.Stated negatively, social costs of regulated labor markets and inflexible wagerates make themselves felt in the form of high and persistent unemployment,widespread tax evasion, the evolution of a shadow economy, and a lowattractiveness for FDI. Looked at positively, transfers to deprived social groupsmust come from outside of industry, i.e., the government, and be levied throughthe operation of the tax system (Siebert 1996). In addition, and assisting in theefficacy of global capitalism for social policy reform, the new macro-politicalenvironment also puts premiums on balanced budgets, low interests rates andlean government. Large-scale, state sponsored social security regimes andpublic systems of social welfare provision with their heavy emphasis onmanpower seem out of sync with the new social and economic realities. Nomore is the creation of public employment a viable strategy in correcting labormarkets. Market-based provision of social security and social services andincentive-based income maintenance match the new climate of fiscal austerityand productivity-enhancing deregulation much better. In addition, market-based production of social policy goods and the new emphasis on employment-related incentives promise to regain political dominance in the welfare state. Toinstall real and quasi-markets in the provision of social welfare should bringbeneficial effects of competition to the public sphere, thereby limiting thepotential of public policies to invite policy capture by service providers, toattract influence activities by social groups and to induce opportunisticbehavior. The attractiveness of this change is its autonomous and self-enforcing character, thereby limiting the risks of politicians to be punished atthe polls.

Direct intervention in the process by which people get an income, be itthrough minimum wage legislation or Earned Income Tax Credit (EITC)schemes, is apparently less prone to distortion since it presupposesemployment. These and related measures do not wait until income is“delivered” to individuals by the market, only then redistributing it via taxes andtransfers (Le Grand 1995, 153). Both regulation and wage subsidies leavemarkets intact, but alter the constraints (and opportunities) agents face (Barr1992, 743). In a similar vein the introduction of quasi-markets, particularly in


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the provision of health care, is an attempt to harness the self-interest of thoseworking in the system to the public good. It is not about suppression of self-interest and opportunism, but transformation of private advantage into sociallydesirable ends via the visible hand of the regulator setting the rules (Le Grand1995, 159).

Companies’ Changing Work PlacesTechnologically induced innovations prompted a blurring of the

boundaries of the firm, giving additional validity to an observation alreadymade by Jensen and Mecklenburg in 1976: “(. . .) most organizations are simplylegal fictions which serve as a nexus for a set of contracting relationships amongindividuals” (310). Within firms market mechanisms are increasingly used, justas resorting to hierarchical mechanisms has become more common inorganizing inter-firm relations (Picot/Ripperger/Wolff 1996). Firms are nowusing a wide array of collaborative arrangements; non-equity strategic alliancesand inter-firm networks have become defining elements of businessorganization. Alliance capitalism is replacing hierarchical capitalism, puttingpremiums on the organizational capabilities of management, and therebychanging the focus of competitive advantage. Management and combination ofassets have become as important as the possession of assets themselves(Dunning 1997: 15),

Restructuring companies is neither something done once-and-for-all, nor isthere a universally best organizational strategy and structure for all sectors andsocieties (Milgrom and Roberts 1995). The structure of value-adding activitiesboth at home and abroad is constantly being realigned, fueled by the new micro-management of flexible production, continuous product improvement andcompeting heterarchies (Best 1990). The ability of employees to respond andto act upon unexpected events becomes a crucial variable of the efficiency ofwork practices (MacLeod 1995, 12, describing empirical evidence of Japaneselabor management). Since this ability cannot be contracted upon ex ante,incentive management comes to the fore.

The emphasis in organizational strategies and structures has shifted fromcoordination to motivation (Wolff 1999). Labor has been revalued as a sourceof knowledge and ideas, and its purely physical and mental properties have beendepreciated. Labor management tools are undergoing a socializing revolution,stressing needs for a closer synthesis of interactive learning between employeessituated at different stages of the value-chain. Incentive management hasbecome the central focus of organizational strategies, reflecting not only theneed for voluntary individual effort, but also the opportunities created by socialpolicies. Social policy institutions, and, at least for some, new private wealth

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generate exit options from the labor market (or disincentives to work,depending on the observer’s perspective). These, in turn, provide the materialbase for the increased salience of post-materialist values, thereby underpinningindividual choice. Put in a different perspective, social policy regulations andtransfers comprise a central element of morale and control of the non-contractual aspects of employment relationships.

With regard to the general climate of the constellation in which socialpolicy actors find themselves, governments have lost their focal point in state-business relationships, as have trade unions. The new constellation is markedby a structurally induced transition from adversarial and confrontational tocollaborative and cooperative strategies. For example, nationalization andregulation strategies of state actors vis-à-vis multi-national companies or theuse of strikes and lockouts to settle question of wages and of industrial relationshave become almost self-defeating. Low costs of capital mobility and a highdegree of import penetration in most product markets have made thesestrategies instruments of last resort. Not only inside the new firm, but also in theinteraction between firms and the constituents of their environment, stateactors, unions and public interest groups, cooperation has become the definingelement.

Incentive schemes have become central at both the macro-organizational(state) and micro-organizational (firm) levels. State actors are now involved inlocational competition over FDI, and companies compete over highly skilledworkers. The environment of social policies is changing. The kind of socialstructure conducive to comprehensive social security programs, be it in form ofsocial insurance or means-tested income maintenance, has dissolved. Largeand uniform employment-based status groups facing similar conditions of workgave way to a much more fragmented and individualized constellation.Families no longer serve as a sort of social backbone to labor markets dominatedby men. Women have joined labor markets in large numbers—and willcontinue to do so if labor markets allow. Just as in employment, personalrelations have become much more fragmented, discontinuous andheterogeneous. Earnings differentials, long assumed to be stable—an object tobe corrected by social policies, or to narrow as educational opportunities widenand job skills become more diffused—have increased.

REALITIES OF SOCIAL POLICY REFORM

Global capitalism is not the only force expected to drive social policyreform. Endogenous factors have also made themselves felt in political debateson the future of social policy.


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Paradigm Breakdown?Since the seventies there has been a growing recognition that welfare

statism is losing its raison d’être. Claims that social policy developments do notreflect the true needs of social groups any more, but have been transformed into“social pork” that redistributed from the poor to the rich, created poverty trapsand became conducive for a new “culture of poverty” won broad support—firstintellectually, then at the polls. Something had to be wrong if an economicmiracle produces more and not less demand for social policy goods. At the sametime “new” poverty risks were detected, making it more difficult to identify“deserving” poor. Next to questions of costs and budgetary viability of socialpolicies the behavioral consequences of public income maintenance came to thefore in public discussions. The notion that social spending created its owndemand and brought about widespread welfare dependency becameincreasingly popular. Since there are no means to effectively test the causalinfluence of social spending on incentives to work, anecdotal evidence andgraphic descriptions of welfare abuse dominated the public discourse.3 Thejoint effect of incentive structures created by welfare state institutions and theinformation problems with regard to “true” preferences for social policy goodsgive welfare states efficiency functions which are largely separate from theirdeclared social policy aims (Barr 1992, 742), producing a gap that has beengreatly magnified by the new micro- and macro-realities of global capitalism.

The notion of declining institutional control enjoys greater political supportin the U.S. than in Germany. One reason is the size of means-tested programsin the U.S. compared to social insurance programs. Moreover, the split betweentypes of welfare state programs reflects racial cleavages, undermining the sortof generalized solidarity necessary for redistributive social policies. Finally,the fragmented nature of the system of cash and non-cash benefits to low-income groups contributed to a sense of losing political (or institutional)control. Despite its “means-tested” nature, growth rates of this type of spendinghave been persistently higher than the growth rates of social security spending.

After balancing the budget and putting the New Federalism in place as ameans of enforcing institutional control over welfare through an automaticmechanism, social policies more in tune with the imperatives of globalcapitalism seem to prevail. Shifting responsibility for one’s maintenance fromthe public to the individual enhanced the compulsion to work directly in the caseof workfare, and indirectly in the case of exit options provided by welfare. Ofequal importance for the assertion of the labor market as the dominant source ofincome is the spectacular rise of EITC in the hierarchy of U.S. social policies.In terms of market conformity, in not providing incentives to disengage from thelabor market, such a program is a very rational method of assisting people to

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maintain their income. In addition the traditionally limited scope of bothunemployment insurance and means-tested forms of income maintenance forthe core groups of the workforce, their low replacement ratios, and the strictlimits on the period of eligibility assist in bringing about and keeping alive avery effective labor market. Most importantly, current social policy programsdo not work to prevent a scaling down of real wages in the face of major shiftsin capabilities and skills.

Employment is of crucial importance also with respect to social security inold age and in case of sickness, either in the form of membership in socialinsurance programs or in the form of fringe benefits. Both social insurance andoccupational, company-based welfare operate through, and not againstmarkets. In that respect U.S. social policies compare very favorably withGerman social policies. There is, however, a catch. If all forms of transfers andbenefits become a direct function of employment, and if the state does notprovide income independent of remunerative work, then people will resort tocontrolling employment.4 In the U.S. one traditional way to do so—unionization and closed shop policies—is blocked, partly for reasons ofpolitics, partly on account of the secular shifts in industrial structure andcompany organization induced by technological progress. The other way tocontrol opportunities created by labor markets is protectionism. In the U.S.wages and employment provide the main motive for protectionism, past andpresent (Eckes 1995). Given their social policy preferences, unlike Europeanpolitical leadership, American governments never had carte blanche to engagethe country in free trade and to integrate the national economy into worldmarkets. The democratic-populist rule of “no injury to domestic industry”pressured American governments either to modulate reductions in barriers totrade according to their assumed negative effects on employment, or to buy offresistance with side-payments in the form of the Trade Adjustment Acts and itsvarious expansions, and other forms of compensating workers for the prospectof losing their job due to increased import competition (Bhagwati 1988;Tonelson 1994). The basic fact is that in order to export a country has to allowimports. The latter can have social costs (Rieger/Leibfried 1998). Again,imaginary or real, people act on what they think has consequences for them.Resistance to change is ubiquitous, but has political consequences when thesource of a disturbance is assumed to be foreign (Krugman 1997). Globalcapitalism has greatly increased the rate of change, and in that respect populardemands for adjustment and assistance on the nation state by those negativelyaffected also grew. In particular in the U.S. the danger of a backlash hasincreased or, more accurately, operates continuously as a point of reference inthe daily work of the White House and the International Trade Commission. In


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Congress protectionist demands are a constant, and any move toward freer tradeis contingent upon putting social safeguards in place beforehand.

The economic rationale and efficiency of compensatory programs is quitea different matter. The least one can say is that they are effective in buying offresistance of the most vocal members of the workforce, those older—and,therefore, having more to lose—and unionized (Decker/Corson 1995).5 Interms of spending, and compared to the overall size of the social budget of theU.S., these programs seem negligible. But politically they are indispensable, asPresident Clinton had to learn the hard way when he tried to win congressionalapproval for fast track authority.

The social politics of trade of this sort are virtually absent in Germany. Tobe sure, there are still pockets of protectionism, for example in agriculture andin the declining heavy industries, steel, coal, and shipbuilding—and quite deepones at that—but they are part of the structure of the German political economy,and not a daily irritant in the management of import and export policies.6 Whataccounts for this difference with the U.S. is precisely that feature most criticizedin Germany, dubbed by Josef Joffe (Süddeutsche Zeitung) as the “full incomesociety.” It is the transfer-rich welfare state engendering a climate of economicsecurity for nearly all of the population, in stark contrast to what can be foundin the U.S., which can explain the variation in the politics of trade. Very rarely,and then only in connection with the industries mentioned above, do traderelated matters make any appearance in party platforms and electoral politics.

Of course, in contrast to the U.S. situation, German industry since the 1870shas been strongly export-oriented and one would expect a broad willingness toaccept imports as part of the deal. But that was not the case. Despite this export-orientation, tariff walls grew, and in the context of the Great Depressionresulted eventually in the autarchic policies of the National Socialist regime(Hirschman 1945/1980). Closing the economy in order to shelter it from thevolatility of world markets was not aberrant. In the mind of the contemporariesnational political and social integration meant international economicdisintegration (Röpke 1944). And in the first two decades after WW II socialscientists still ruled out any move toward freer trade (Myrdal 1957; Deutsch/Eckstein 1961). For reasons of not putting the newly founded democracy injeopardy it was thought that the political primacy of social security wouldexclude any significant opening of the economy. But in the end it was exactlythe move toward the so-called social market economy that allowed subsequentgovernments to get rid of price controls, quota systems and tariffs.7

Presently it is the comparatively easy and non-stigmatized availability of abroad range of benefits, which, despite being means-tested, reach even strata ofthe middle classes, that guarantee some sense of economic security outside the

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labor market, and help people adjust to new situations by enabling them toinvest in knowledge and skills (Leisering/Leibfried 1999). And despite someattempts at sharpening the teeth of “workfare” rules in recent years the systemof unemployment insurance still includes an open-ended commitment to assistthose without work and provides a broad range of measures including activelabor market policies.8 More important however is the fact that theadministration of labor markets and the administration of social assistanceinstitutionally and financially are still separate. Fiscally and institutionallylabor market administration is separate from both the federal government andlocal authorities. This means, among other things, that for those receivingsocial assistance benefits the rules that should compel them to work lack teeth,because case officers are unable to point them directly to jobs—and sanctionsubsequent behavior accordingly.

In some ways this is a crude picture. But it helps explain why Germanworkers consent in principle and in practice to free trade. But this willingnesscomes with a hefty price tag. First of all, social assistance and the benefits oflabor market administration are part and parcel of a very costly welfare state. In1996 spending on social protection in Germany amounted to 30.5 percent ofGDP (Eurostat 1999). Nearly half of it goes to pensioners. Therefore, to arguethat a welfare state of exactly this sort is a necessary condition for acquiescencevis-à-vis global capitalism is a non sequitur. Second, and more important, arethe behavioral consequences of German social policies for the shop floor.

In Germany there is still reason to describe the rationale of social policiesas guaranteeing a “full income society”—notwithstanding the fact that it is ashrinking proportion of the population that can enjoy this feature. The stabilityof real wages despite the rise of mass unemployment indicates a labor marketsplitting insiders from outsiders, with the mechanisms of social policyreinforcing this split. Without further generous transfers provided by theparafiscally organized Federal Institute of Labor and the essentiallycommunity-based system of social assistance, popular resistance to the presentsystem of wage settlement would be much stronger.9 The same is true for socialregulation of employment and the rights it creates for employees in theirworkplace. In particular the labor courts have been very active in strengtheningthe economic rights of employees, and also in giving the unions strong levers insanctioning companies for their behavior vis-à-vis settlement contracts(Rüthers 1996). Next to the comparatively high level of wages it is this over-regulation of the German labor market that constitutes a major barrier forcreating new jobs. In addition, wages form a major part of the fixed costs ofsmall companies, a factor of crucial importance in the highly contestablemarkets of the service, information and communication industries.


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The ability of German companies to experiment with new forms andstructures of remuneration, including forms of linking pay to companyperformance, is strictly limited by employment law, court rules, and unionpresence. Strategies like those of the American Nucor Corporation, a highlysuccessful newcomer in the old industry of steel manufacturing, are ruled out inGermany by the centralized system of wage settlement. Nominally, Nucor paysits employees only 60 percent of the average wage of the industry, but in effectdoubles this average wage by the operation of a performance-based bonussystem. In Germany, not only the structure of wages, but also all forms ofperformance- or profit-related remuneration of workers have to pass throughthe eye of a needle, i.e., they must win the consent of the two major actors of thecorporatist system. The present structure of industrial democracy prevents bothsmall and large scale experimenting with wages, in particular mixing marketand public sources of income to create employment for the lower strata of theunemployed.

This is not just the product of the present constellation of political forces.Different traditions of social philosophy play a major role in public policymaking vis-à-vis competitive markets in the two countries. In Germany thefocal point of social thinking is the material status of the individual in acollective. His consumption needs, or what is perceived to be his legitimatestandard of living, guide public policy. The idea of a “living wage” is stillthought to be a norm against which the efficiency of the economy in satisfyingbasic needs could be measured. Recent attempts at pricing the so called “630DM” jobs—a type of marginal employment—out of the market and the struggleagainst “irregular,” i.e., short term employment, are fueled by notions of an“orderly” or “organized” economy. Of course, this reflects an extremely statusquo-oriented and basically static philosophy. But it helps to explain whymarkets and competition in Germany always come second. There is not only thedistrust of markets with regard to their distributional, or income generatingcapabilities, but also a deep-seated contempt of both the spirit, or ethos, and thepeculiar instruments, or basic mechanisms, of the market economy. It is now,and, in a sense, always has been, a major problem in German social policymaking that alliances of diverse interests can be formed around the idea that“the ultimate and only value by which conduct of their affairs is to be decidedis good administration and provision for their needs by officials” (Weber 1994:158). In stark contrast, in the U.S. the price of labor achieved in competitivemarkets is also thought to be the “right” price in normative terms. And the mainstandard of political significance for social policymaking is the “minimum”—the minimum wage and the poverty line. The individual is seen in abstract

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terms, acting on the basis of some fundamental rights and solely responsible forthe results.

The Social Arithmetic of the Welfare StateDifferences observed in both the dynamics and forms of social policy

reforms can, perhaps, be explained by different stages of economicdevelopment in the two countries. With regard to both the transition to aservice-based and an information-centered economy, Germany is a laggard,still exhibiting the main features of industrial society. Correspondingly, theorganization of companies and the sort of employment they offer is notadvanced enough to give the new forms of social policy (market-based,incentive-oriented, regulation-dominated, selective) sufficient driving force. Inthis perspective transition is a matter of time, not of substance. This wouldmean, basically, sooner or later all developed welfare states will follow thesame trajectory towards a more market-based production of social policy goodsand more selectivity and decentralization in the remaining public socialpolicies.

In a different perspective, however, the social structure of Germanyemploys some distinct features that bolster the traditional forms of social policyorganization. A first inhibiting factor is the demographic structure, whichfavors the present structure of both old age and sickness insurance. Thecombination of a broad demographic shift and of near universal coverage ratesin the basic social insurance systems produces a homogeneity of interests (andpolitical outlook) which by itself makes for a quite conservative factor in thethinking about new departures in social policymaking.10 Pensioners comprise24.8 percent of the total population, against 40.7 percent gainfully employed. Inabsolute numbers there are 20 million pensioners, and 21 million in privatecompanies producing goods for the market, with 12 million in services anddomestic trade. It is, therefore, not by accident that the two major Germanparties are nearly indistinguishable in their position on a reform of old ageinsurance, and only the smaller and much more programmatic parties of theLiberals and the Greens try to depart from the status quo by proposing marketsolutions or a basic flat rate system.

A second inhibiting factor is the size of groups employed in the publicprovision of the social goods of the German welfare state. The sum total of civilservants, employees in the administration of social security and those employedin the health sector amounts to nearly eight million persons. To engineer atransition to more market-based and more selective programs one has to winover these groups. As far as one can see, there is virtually no discussion on howto make the transition possible. On the contrary, one can observe, for example,


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that the foreseeable employment effects of a more restricted access to spas aspart of the benefits of sickness insurance prompted the prime minister ofBavaria to veto the proposal (which, by the way, was formulated by a ministerof the federal government who is a member of his own regional party).Moreover, mass unemployment reaching members of the middle classes is notconducive to large-scale social policy experimentation.

In short, coverage of social insurance programs determines politicaladjustment costs, and the homogeneity of the groups drawing income from thestate determines the selection process for new social policy rules. The higherthe coverage is, the higher the adjustment costs of a transition to a differentregime. If there are only a few and highly uniform institutional structures ofwelfare state programs, then there is only a small chance for institutionalexperimenting and learning. If systems are more fragmented, and if governancestructures are more decentralized, as is the case in the U.S., then we can expecta faster pace of adjustment to a new economic environment as spillover effectswill be communicated rapidly across the public/private divide.

Contrary to what we should expect with the advent of global capitalism,Germans try to adhere to traditional formulas in social policy. Even the smallderegulatory initiatives undertaken by the Kohl government shortly beforebeing voted out of office, were, in line with promises, rolled back by the SocialDemocrats. The language of class conflict and class struggle reappeared.Whereas in 1980, 25 percent of those interviewed were of the opinion that“class struggle” and “irreconcilable conflicts” exist between employers andemployees, the figure rose to 44 percent in 1997 (Noelle-Neumann 1998). Butthis may be misleading. More to the point is Jan Roß of the weekly Die Zeit.Observing the broader picture in which the electoral triumph of the SocialDemocrats is only a small part, he drew the conclusion that in the strugglebetween market and welfare state the latter won; equality is back (1999). Thereal fight is between those who have a vested interest in social policies, andthose who look for the market in terms of opportunities. In terms of numbers thefirst prevail. Despite global capitalism, it is domestic politics that shape policyanswers. The electorate holds the ultimate political power in its hands; theircomposition, or the identity of the median voters, provides the cues to parties.And politicians have exclusively national constituents.

CONCLUSION

Robert Frost is right: “The trial by market everything must come.” But thisdoes not mean that the market can actually force the decision. Robert Frost did

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not sell his Christmas trees at the price offered. This was his decision. He knewits opportunity costs.

The markets brought about by global capitalism are merciless in revealingthe economic and the social costs of social policies—but also their benefits.However, and concentrating on the costs, it is true that countries can no longerput beyond the reach of world markets their domestic economic and socialpolicy arrangements. But this fact as such is as true as it is meaningless—in theproper sense of the word. There are two problems involved. The first is that thevery same signals of global capitalism and world market integration telldifferent stories to different people. And here lies all the difference. It meansthat in the end—and this is the second problem—economic rationality alonedoes not decide social policy reform. In a democracy, arguments,notwithstanding their soundness, do not decide. Numbers do. And people acton what they believe is true.

Depending on the values they adhere to, signals transmitted by globalcapitalism have a different meaning for the various groups affected. To believethat the apparent realities of global capitalism provide uncontested parametersfor reform on which politicians can act is a grave mistake. The facts of worldmarket integration are acclaimed and notorious at the same time. Their claimthat they provide self-evident normative standards on which officials should actin the interest of some common weal is an illusion. To further global capitalism,to assist in enhancing its opportunities is just one possible goal. Obviously thereare others, and there is, from a social science point of view, no á priori reasonto judge them nonsensical. “The distinctive characteristic of a problem of socialpolicy,” Max Weber calls to our mind, “is indeed the fact that it cannot beresolved merely on the basis of purely technical considerations which assumealready settled ends. Normative standards of value can and must be objects ofdispute in a discussion of a problem of social policy” (1904/1949: 56).

The politics of social policy reform are, at heart, Kulturkampf. All reformproposals intend to “really,” and not “fictitiously” increase welfare. All partiesinvolved lay claim to this. The only thing social science can do is help actorsrealize that in social policy reform all action and all inaction in pursuit of somedesired end will incur costs in terms of predictable losses of other ends. Whichend actors should settle on is decidedly not a scientific question. However, ifthe question of the end is settled, social science can assist in bringing about aRealpolitik of social policy reform in the sense of having a plan to actuallyachieve its end, because it accounts for all possible resistance and the forces itcan muster.


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Krugman, P. 1995. Growing World Trade: Causes and Consequences, BrookingsPapers on Economic Activity I: 327-77.

Krugman, P. 1997. What Do Trade Negotitators Negotiate About? Journal of Economic

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Literature 35, 1: 113-120.Le Grand, Julian. 1995. Knights, Knaves or Pawns? Human Behaviour and Social

Policy, Journal of Social Policy 26, 2: 149-169.Leisering, L. and S. Leibfried. 1999. Time and Poverty in Western Welfare States.

United Germany in Perspective, Cambridge: Cambridge University Press.Lindbeck, A. and D. J. Snower. 1996. Reorganization of Firms and Labor-Market

Inequality, American Economic Association Papers and Proceedings 86, 2: 315-321.

MacLeod, W. B. 1995. Incentives in Organizations: An Overview of Some of theEvidence and Theory, in: H. Siebert (ed.), Trends in Business Organization: DoParticipation and Cooperation Increase Competitiveness? Tübingen: Mohr(Institut für Weltwirtschaft an der Universität Kiel): 3-42.

Milgrom, P. and J. Roberts. 1990. The Economics of Modern Manufacturing:Technology, Strategy, and Organization, American Economic Review 80, 3: 511-28.

Murray, C. 1984. Losing Ground. American Social Policy, 1950-1980, New York:Basic Books.

Myles, J. and P. Pierson. 1997. Friedman’s Revenge: The Reform of ‘Liberal’ WelfareStates in Canada and the United States, Politics & Society 25, 4: 443-472.

Myrdal, G. 1957. Economic Nationalism and Internationalism, Australian Outlook11,1: 3-50.

Noelle-Neumann, E. 1998. Ein Riß teilt das Land. Abschied vom sozialen Klima derNachkriegszeit, Frankfurter Allgemeine Zeitung, November 18.

Picot, A., T. Ripperger and B. Wolff. 1996. The Fading Boundaries of the Firm: TheRole of Information and Communication Technology, Journal of Institutional andTheoretical Economics 152, 1: 65-79.

Pierson, P. 1995. Fragmented Welfare States: Federal Institutions and the Developmentof Social Policy, Governance 8, 4: 449-78.

Preeg, E. H. 1995. Traders in a Brave New World. The Uruguay Round and the Futureof the International Trading System, Chicago IL and London: University ofChicago Press.

Rieger, E. 1995. The Common Agricultural Policy, in: H. Wallace and W. Wallace(eds.), Policy Making in the European Community. Third Edition, Oxford: OxfordUniversity Press.

Rieger, E. and S. Leibfried. 1998. Welfare State Limits to Globalization, Politics &Society 26, 3: 363-390.

Röpke, W. 1942. International Economic Disintegration, London: William Hodge.Roß, J. 1999. Die Rückkehr der Gleichheit, Die Zeit, Nr. 3, January 14.Rüthers, B. 1996. Beschäftigungskrise und Arbeitsrecht. Zur Arbeitsmarktpolitik der

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Methodology of the Social Sciences, New York: Macmillan: 50-112.Weber, M. 1994. Political Writings, Cambridge: Cambridge University Press.Weber, S. 1997. The End of the Business Cycle? Foreign Affairs 76, 4: 65-82.Williamson, J. G. 1998. Globalization, Labor Markets and Policy Backlash in the Past,

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ENDNOTES

1 This is, in a nutshell, Max Corden’s concept of the Conservative Welfare Function, anidea which is particular helpful for understanding actual trade policies (Corden 1997:74-6).2 For the classic treatment of this topic, albeit with no relation to globalization, seeBaumol/Panzar/Willig (1982).3 Nicholas Barr (1992, 745) has noted that since it is not possible to establish acounterfactual income distribution without welfare state transfers one could argue thatcash benefits are not the cure for poverty but its cause—as Charles Murray (1984) hasdone to great effect.4 For example increased dependency on employment as the only gate to health caremeans that labor market volatility has direct effects. In 1997 13 percent of those thencovered by insurance reported that they had been completely without health insurance atsome time during the past two years (Bowman 1999: 2).5 For the beginnings of Trade Adjustment Assistance see Aho/Bayard (1980)), and forthe social trade politics around NAFTA see Conybeare/Zinkula (1996).6 It is not the case that all powers in foreign economic policymaking have moved to theEuropean Union. The actual business of controling imports and promoting exports isstill done in the national arena (Epping 1998). Vis-à-vis member states the EuropeanUnion is not a force of its own, but a stick to use against the U.S. and Japan.7 Agriculture in Germany and Western Europe were kept under protective shelters forthe very reason that this sector couldn’t be brought into employment-related socialinsurance programs which were rapidly expanded in the 1950s. With regard toeconomic security tariffs were second best. In addition, it is the absence ofdemocratically controlled politics on the European level which ensures for both

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agriculture and the coal and steel industry that protectionism is kept in place (Rieger1996). The share that people working in these sectors now have of the electorate is sosmall that in a democratic-parliamentary regime the votes necessary to bring about anyprotectionism costly to both consumers and tax payers simply would not exist.8 The Sachverständigenrat, a board of advisers to the government who publishes anannual report on the economic situation of Germany, gives data on “hidden”unemployment—those with jobs financed totally or partially from public money (35):

Old Länder New Länder

Registered Unemployment 9.8 20.1Hidden Unemployment 3.6 16.4

9 Contrary to stated intentions the majority of wage settlements apparently makingprovisions for a lowering of wages and increasing flexibility aims not at outsiders to geta job, but to guarantee those already employed their workplace (Sachverständigenrat1999: 123).10 On can argue that the wider spread of incomes in the United States would make iteasier for politicians to win over large segments of workers now covered OASDH bybaiting them with the promise of a more profitable, market based system.


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TAX POLICY IN A GLOBAL ECONOMY:ISSUES FACING EUROPE AND THE UNITED STATES

Gary Hufbauer

INTRODUCTION

The hallmark of a global economy is greater mobility of economictransactions and economic agents. Firms and households enjoy far moregeographic choice for purchases of goods and services, for locations to invest,and for places to work and retire. These choices often spill across nationalborders, as firms and households seek to buy at the lowest price, to sell at thehighest price, to invest at the preferred combination of risk and return, and tolive in communities that best meet their needs. In the long run, the outcome ofgreater choice is more efficient economies and better living standards. Alongthe way, however, are numerous social challenges. Among these challenges isthe threat to customary systems of taxation.

In the “old days”—say before 1970—international commerce was largelyconfined to merchandise trade; multinational enterprises (MNEs) were amodest part of the world economy; and most individuals consumed and investedat home. In this setting, legislative bodies could set the tax rates on differenttypes of transactions and agents without worrying too much about adisappearing tax base, or the balance between benefits and burdens for differentcategories of firms and households.

The old days are gone forever. The enhanced mobility we have already seenbetween 1970 and 2000 only previews greater mobility in the next thirty years.The chart below offers a qualitative summary of mobility past, mobility present,and mobility future, as it affects major elements of the tax structure.

Tax Base Item Mobility in 1970 Mobility in 2000 Mobility in 2030Wage & salary income Low Low ModerateConsumption of goods Low Moderate ModerateConsumption of services Low Low ModerateInvestment income Low Moderate High

Corporate profits Low Moderate High

The technologies underlying greater mobility are familiar, and require onlybrief description. Wage and salary income will acquire greater mobility in thenext thirty years because any work that can be performed on the computer willin time be capable of remote performance: an individual in Bombay can sell herengineering services in Berlin. Physical migration may well remain tightlycontrolled, perhaps limited to professionals, family reunification, and some


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guest workers, but mental migration will be practically unlimited. Electroniccommerce (e-commerce) will greatly increase the mobility of goodsconsumption as shoppers search websites for bargains far away, and as goodsare delivered by private shippers such as FedEx and UPS. E-commerce will alsoenhance the mobility of services consumption as households buy education,entertainment, insurance, legal, and accounting services from distant suppliers.Falling airfares will enable households to spend more of their tourist and healthdollars in distant locations. Investment income will become highly mobile aspension funds and brokerage firms develop worldwide networks andhouseholds seek to diversify their portfolios. Likewise, corporate profits willbecome even more mobile as dense intrafirm networks of purchases and salesenable multinational enterprises to shift production and distribution to locationswith the highest returns, and maintain their financial accounts with a view tominimizing their taxes.

Faced with these challenges, the taxman’s first reaction is to devise clevertechnical fixes, implemented on a national basis, designed to prevent tax baseerosion. His next reaction is to think about international tax agreements thatmight enable participating countries to shore up their systems. Further downthe taxman’s list are responses that would adjust the tax system to the newrealities of the international economy. In the sections that follow, I explorethese alternatives.

NATIONAL TECHNICAL FIXES

The basic weaknesses of national technical fixes are not their design flaws.Finance ministries and legislative committees are staffed with capable expertswho can fashion good technical solutions to the problem of tax base erosion.The basic problems are political and administrative feasibility.

Consider first the problem of political feasibility. As Cardinal Richelieufamously observed, the art of taxation is like pulling feathers from a duckwithout the squawk. A modern extension is that an old tax is a good tax, a newtax is a bad tax. Most technical fixes, however, entail measures that will beperceived as new taxes—after all, they respond to new technologies. And sincenew taxes are bad taxes, they cause a lot of squawking. A few examplesillustrate this basic problem.

In recent years, the notion of a “bit tax” on e-commerce was raised andrejected in Europe. Meanwhile, the U.S. Congress called for a standstill on newstate taxes on e-commerce. Over several decades, many states have tried to taxmail order retail sales, with very limited success. About a decade ago, theInternal Revenue Service proposed a system of withholding at source, to cope

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with enormous underreporting of interest and dividend income. The proposalnever made it through Congress, and instead was replaced by a system ofbackup withholding for proven tax cheats. Finally, for more than three decades,dating back to the 1960s, the U.S. Treasury Department has sought to end“deferral,” the compromise under which the active foreign income of U.S.-controlled subsidiary firms incorporated and operating abroad is not taxed untilrepatriated as dividends to the U.S. parent firm.

These examples have two common political threads. In some cases, thetechnical fixes would increase the reporting and tax burdens on a very largenumber of individuals. In those cases, the agitated opposition of literallymillions of taxpayers has doomed the proposed solutions. In other cases, thetechnical fixes would put important firms at a severe competitive disadvantage,relative to competing firms not subject to the same tax rules. This wasespecially true of proposals to end deferral, but it has also doomed efforts attaxing mail order sales within the U.S. Telecommunications giants effectivelyopposed bit tax concepts; in the future, parcel delivery firms will stoutly resistefforts to assess value-added or sales taxes on their cross-border deliveries.

Next consider the problem of administrative feasibility. Extending the taxnet to reach mobile transactions depends either on voluntary reporting or thecooperation of foreign tax authorities. (For more on international cooperation,see the next section.) Voluntary reporting in the U.S. and Germany may behigh, compared to Italy or Spain. Nevertheless, “taxpayer morale” is probablydeclining everywhere, and without the cooperation of foreign tax authorities,more and more transactions will escape the tax net. Again, some examples areillustrative. It is thought that about three million civilian Americans live outsidethe United States, but only about 300,000 submit tax returns. On a worldwidebasis, interest, dividends and capital gains are substantially underreported andaccount for a major portion of the billions of dollars of “errors and omissions”in national balance of payments accounts. Some states have tried to impose “usetaxes” on resident purchasers of expensive items (such as autos and electronics)from out-of-state retailers—but use taxes have flopped as a source of revenue.

This recitation of political and administrative obstacles does not mean thatall technical solutions devised at a national level are doomed to fail. But it doesmean rising frustration for the taxman as mobility comes to characterize widerswaths of the economy.


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LIMITS TO INTERNATIONAL COOPERATION

The difficulties of preventing tax erosion through purely national measureswill inevitably prompt a search for cooperative solutions at the internationallevel. Sober words of caution are thus in order.

The international problem is not a shortage of technical solutions. Eversince the Europe 1992 program was devised, the European Commission hasoffered numerous remedies for the tax anomalies between member states. Inparticular, the EC has tried to narrow national differences in value-added taxrates (by setting a band of 15-25 percent) and solve the thorny problem of borderadjustments, and it has tried to reconcile different approaches to withholding oninterest and dividend income. In the United States, the Multi-State TaxCommission has tried for decades to create a higher degree of tax cooperationbetween several states. In a volume published in 1992 (U.S. Taxation ofInternational Income: Blueprint for Reform, Institute for InternationalEconomics, October 1992), Joanna van Rooij and I put forth severalrecommendations for improving collections on international portfolio income.Few of these efforts have done much to cope with the tax realities of a globaleconomy. Why not?

The central reason is that international cooperation on a significant scaleconfronts a combination of problems arising from zero-sum arithmetic andfederalism. To be sure, almost everyone is happy when a notorious tax cheat isnailed. But the big money doesn’t come from a handful of high-profile taxcheats. It comes from thousands, even millions, of transactions that mixavoidance and evasion in varying proportions.

The first point to emphasize has to do with tax convergence betweennational systems. H. David Rosenbloom, in a recent perceptive paper(“International Tax Arbitrage and the ‘International Tax System,’”forthcoming, Tax Law Review, Spring 1999), rightly emphasizes that there isvery little tendency towards tax convergence, much less tax harmonization,even among OECD countries. To be sure, at a gross level, there are similarities.Most OECD countries have cut their top marginal corporate rates to the vicinityof 35 percent and their top marginal personal rates to the vicinity of 50 percent.And most (notably excluding the United States) have introduced some form ofbroad-based consumption tax (a value-added tax or a similar levy), alongsidepersonal income taxes, corporate income taxes, and social security taxes. Butsimilarities progressively vanish the closer one examines the critical details ofnational tax systems. Countries differ on personal deductions such as mortgageinterest and child care, special provisions for retirement savings, taxation offringe benefits, and so forth. They differ on rates of value-added taxation and

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social security levies. They differ enormously in the details of corporatetaxation: investment tax credits, depreciation allowances, classic vs. integratedsystems, etc. No country has a unique claim to the “right” tax system; in fact,every national system reflects the continually evolving mix of forces in ademocratic society. Hence, in the year 2030, national tax systems will likelyremain as different from one another as they are today.

In terms of meaningful tax cooperation, these essential differences implythat one country or the other must surrender some important tax advantage whenit enforces the system applied by its partner. To be sure, both countries maycollect more revenue; but in the process, each country will anger importantconstituents who are asked to accommodate the tax rules of a foreign power.Examples will illustrate this dilemma.

Ireland has dramatically narrowed its per capita income gap with the UnitedKingdom and continental Europe since joining the Economic Community in1973. A key ingredient of Ireland’s success has been its system of tax holidaysand low tax rates for foreign-owned subsidiaries that establish local operations.Pressure from the European Union on Ireland to adopt the European norms ofcorporate taxation has been stoutly resisted in Dublin. While certain localsubsidies have been challenged by Brussels, Ireland’s current 10 percent rate onmanufacturing firms, and its plans for an across-the-board corporate rate of 12.5percent starting in 2003 are permitted under existing EU rules (see BNA, DailyTax Report, 12 January 1999, p. G-4). Similarly, Puerto Rico has long enjoyedtax advantages under the U.S. Internal Revenue Code for pharmaceutical andother high-tech assembly operations. San Juan has vigorously, if not alwayssuccessfully, resisted attempts by the U.S. Treasury to narrow these advantages.Banks in London and Luxembourg thrive on managing nonresident funds, freefrom the tax scrutiny of other European countries. Accordingly they resist anyEuropean-wide reporting or withholding system.

As a technical matter it may be possible to devise revenue-neutral solutionsto national differences of the kind illustrated—i.e., solutions that leave allnational finance ministries equally well off (or even better off). But revenue-neutral solutions will still create losing constituencies, and in a democraticsystem losing constituencies can often block proposed changes in the tax law.

The other structural reason why tax convergence will remain a distant goalfinds its basis in the federal structure of the United States, Germany, theEuropean Union itself, as well as important countries such as Australia, Brazil,Canada, and India. Briefly, federal governments find it difficult or impossibleto agree at an international level on tax rules fashioned to constrain their statesor provinces. Meanwhile, subfederal units are playing a larger role in economiclife. Often the result is subfederal incentive schemes, operating through tax


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relief and investment subsidies, designed to attract national and multinationalfirms. The response rate to these incentives may be quite high. In fact, withinthe United States, response coefficients may be as high as ten, implying that aone percentage point decrease in the state corporate tax rate (or an equivalentsubsidy) may induce 10 percent more investment than would have otherwiseoccurred. (For a review of the literature, see Gary C. Hufbauer and Dean A.DeRosa, “Costs and Benefits of the Export Source Rule,” Tax NotesInternational, vol. 14, no. 20, May 19, 1997.) Hence it is difficult for nationalfinance ministries to lecture their state and provincial colleagues over the“foolishness” of tax and subsidy “giveaways.” It is even more difficult fornational finance ministries to curtail the economic powers of subfederal unitsthrough international agreements.

SCOPE OF INTERNATIONAL COOPERATION

While these cautions severely limit the scope of practical international taxcooperation, they leave room for modest initiatives to cope with the challengesof a global economy. In the paragraphs that follow, I outline what I regard as theouter limits of feasible tax cooperation between the United States and theEuropean Union in the next decade.

E-commerceOne of the great revolutions of our time is the explosion of e-commerce.

With e-commerce, households as well as firms can buy goods and services froma much larger field of suppliers than otherwise. The result will be anapproximation to the model of perfect competition for goods and servicesranging from wine and shoes to electricity to entertainment and education.Widening the market will bring substantial efficiencies in terms of larger salesby low cost suppliers; it will bring even greater efficiencies in terms of the morerapid diffusion of technologies for new products, new production methods, andbetter distribution systems. In order to realize these gains, national tax systemswill need to accommodate cross-border production of goods and services solddirect to households. For goods, this implies a huge volume of small parcels; forservices it means an enormous expansion of internet deliveries.

The most practical way to accommodate e-commerce in the tax system is toadopt the origin principle of border tax adjustments for value-added and similarconsumption taxes. Under the origin principle, taxes are not imposed onimports of goods and services, but they are imposed on exports. From anadministrative standpoint, it is much easier to collect taxes on firms at thelocation of production than on households at the place of delivery. This is

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surely true for small parcels arriving in large volumes in the customs sheds ofthe world. It is even more true for services arriving by internet at the computersof millions of individual buyers.

Under longstanding GATT and now WTO rules, however, value-added andsimilar taxes are typically adjusted at the border according to the destinationprinciple: they are imposed on imports but not on exports (the exact reverse ofthe origin principle). In general equilibrium analysis, with flexible exchangerates, it makes no difference to a nation’s current account balance whether itadopts the origin or destination principle for border tax adjustments. But thefact that two principles have an equivalent effect on the current account ingeneral equilibrium does not mean they have the same effect on individualeconomic sectors, nor does it mean that switching from one rule to another canbe done without significant transition costs. (For an extended discussion, seeGary Clyde Hufbauer and Carol Gabyzon, Fundamental Tax Reform andBorder Tax Adjustments, Institute for International Economics, 1996.)

In short, the change from existing border tax adjustments under thedestination principle to a system of no adjustments under the origin principlewould be politically unpopular with important firms. Reciprocity betweenEurope and the United States would thus be critical, staged implementationwould be necessary (e.g., sector by sector, starting with services and low-valueparcels), and special exceptions might be needed for heavily taxed items likeperfume, tobacco and alcoholic beverages.

Personal Income TaxesIn the global economy of 2030, households will derive more of their income

from sources outside their country of citizenship or residence. Interest,dividends and capital gains from abroad are already important and will becomemore so as pension funds continue to diversify their portfolios internationally.(According to the OECD, The World in 2020: Towards a New Global Age,1997, p. 87, the pension funds in major OECD countries now invest between 5and 35 percent of their assets internationally; these proportions could double inthe next twenty years.) In addition, more individuals will derive service income(accounting, legal, engineering, design, consulting, etc.) from foreign clients,and they will earn rents on foreign properties. Finally, with the aging ofAmericans and Europeans, many more people will choose to spend theirretirement years abroad, while drawing social security and other pensionbenefits from the country where they once worked. These incidents of mobilityall play havoc with personal income tax systems—especially the U.S. systemwhich claims to tax the worldwide income of all citizens, regardless where they


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reside. (In fact, the United States even claims to tax the income and estates ofex-citizens, for a period of ten years after they renounce their U.S. passports.)

Between the United States and the European Union, it might be possible tobring a degree of order to the tax chaos by agreements that accomplished threeobjectives. The first objective is to devise a system of comprehensive reportingof interest, dividends, capital gains, rents and personal service income paid toresidents of the other country. The system would need to be reinforced bybackup withholding taxes on payments outside the net of treaty countries—otherwise fraudulent addresses would explode. The first step is to create asystem of reporting and backup withholding taxes within Europe; and, asalready noted, this initial step faces stiff resistance from Luxembourg and theU.K. banks. The second step is to negotiate an EU-U.S. accord; and, sincemember states retain competence over most tax matters, they would first needto agree on a common line among themselves.

The second objective is to reach an EU-U.S. agreement that personalincome taxes will be levied on the basis of residence, not citizenship. Residencewould be determined by a factual test (e.g., country of citizenship unless theperson spent more than 270 days in the tax year in the other country, meaning,in the case of Europe, a single member state). In other words, the great majorityof expatriates would pay personal income tax to only one country, and therewould be no withholding tax or foreign tax credits for income derived fromsources in the other country. To reduce “gaming” between tax rules and healthcare provisions, residents would be eligible for publicly supported health care(e.g., Medicare) only in the residence country—the same place they paypersonal income taxes. Again, an accord with these various dimensionspresupposes that the member states can reach a common line amongthemselves—not an easy task.

Corporate Income TaxesThe great preponderance of international tax law concerns the activities of

firms, especially multinational enterprises (MNE) with corporate and branchoperations in multiple countries. Multinational firms take investment decisionsthat affect hundreds of billions of dollars and shape millions of lives. ManyMNEs derive more than a third of their earnings from sources outside the homecountry. Not surprisingly, given the importance of MNEs and the density oftheir transactions, today’s international tax regimes are deeply entrenched bothin the law and the politics of OECD countries. The regimes will not be easilyaltered.

Elsewhere, I have argued that the United States would do itself a nationalfavor by adopting the key elements of territorial taxation. The territorial

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approach would focus attention on measuring and taxing corporate incomeearned in the United States, rather than the worldwide income earned by U.S.corporations and their controlled subsidiaries. (See U.S. Taxation ofInternational Income: Blueprint for Reform.) There is practically no chance,however, that the U.S. Treasury or Congress will embrace theserecommendations as a general template for redesigning the tax system.

Nevertheless, it is remotely possible that elements of the approach could benegotiated between the United States and the European Union. Again, thiswould require a common line among the member states. Each country wouldtax the corporate income earned at home, but would not attempt to tax theincome earned by subsidiary firms incorporated and operating in the othercountry. The two countries would negotiate rules for allocating expense,setting royalties and evaluating other transfer prices between corporatemembers.

Inherent in this recommendation is the fundamental idea that each countrywould tolerate (within agreed limits) incentives the other country or itssubfederal units might offer to attract investment and jobs. To ensure thisdegree of toleration, the European Union, its member states, and the UnitedStates (and its fifty states) would first need to reach agreement on much tighterrules setting maximum subsidy levels than now exist within the WTO. Theywould also need to agree on minimum across-the-board corporate tax rates—asubject not addressed in the WTO or other accords. The rules would need tocover subfederal as well as federal practices. Again, we are nearing the limitsof practical politics—if not completely crossing the boundary.

CONCLUSION:ADJUSTING PUBLIC FINANCE TO PRIVATE MOBILITY

Taxes are compulsory payments to government for which the taxpayerreceives no specific benefit. But the taxpayer is entitled to the general benefitsof governance; and if the taxpayer is dissatisfied with the balance betweenpublic benefits and tax burdens, he may consider moving to anotherjurisdiction—another city, another state, another country. This fundamentalobservation was made in 1956 by Charles Tiebout (“A Pure Theory of LocalPublic Expenditures,” Journal of Political Economy, vol. 64, 1956). Fortyyears later, the costs of moving are rapidly falling and the opportunities formoving are greatly increasing, both for firms and households. The TieboutHypothesis applies not only locally but also globally. Jurisdictions that want toavoid a shrinking tax base and dwindling revenues must accordingly deliverquality government services at competitive costs. They must also pay more


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attention to the benefit/burden calculation for groups of firms and households,not just for society as a whole.

Let me conclude this essay with brief comments on the benefit/burdencalculation. In the decades ahead, enhanced mobility means that mostjurisdictions will be left with few “cash cows” that can be taxed heavily withoutprompting their move to greener pastures. Instead, tax systems will necessarilybe redesigned to attract mobile firms that provide good jobs. Public benefits willneed to show up in quality education and other public services that appeal toskilled employees. Otherwise, the firms and the jobs will move, both physicallyand via the internet.

These benefit/burden considerations will compel a number of microadjustments in tax systems and public expenditure profiles. However, they willalso force a major social challenge. Europe and the U.S. will find it increasinglydifficult to extract large sums of money from the working population to paygenerous social security and health benefits to vast numbers of retired citizens.In the decades ahead, the core redistribution component of current tax andexpenditure systems—redistribution between working and retired citizens—will be severely challenged by the realities of the global economy.

Peter G. Peterson brilliantly explores this theme in a new book (GrayDawn: How the Coming Age Wave is About to Transform America—And theWorld, Random House, 1999). Until Europe and the United States convert theircurrent pay-as-you-go social security and old-age health systems into fullyfunded plans (where each age cohort pays for its own retirement and healthbenefits), working people will find themselves paying stiff taxes to care for theirelders. In the meantime, working Americans and Europeans must come toaccept a significant drop in their after-tax incomes, or public old-age benefitsmust be curtailed, or firms and jobs will migrate to younger countries. Over thenext two decades, these unpleasant choices will become the dominant challengeof public finance on both sides of the Atlantic.

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CHALLENGES OF GLOBALIZATIONFOR GERMAN TAX POLICY


INTRODUCTION

Since the mid-1980s, discussions of German tax policy and its reform havevery much been formed by a significantly changed international environmentcaused by globalization/internationalization of production, liberalization offinancial markets, or just by international tax competition. Though all this wasnot completely new to a (once) small open economy and its immediate neteffects have been negligible,1 the additional—actual or seeming—loss of fiscalautonomy and the influence on the tax reform discussion was considerable.Most participants now take it for granted that states compete2 for internationallymobile tax bases which are engaged in a permanent search for tax arbitrage;emigration of tax bases, particularly capital outflow, would enlarge thestructural and fiscal problems of “high-tax” countries. To secure the level ofpublic expenditure, tax rates for the less mobile factors would have to beincreased or expenditure would have to be reduced.

However, globalization is not the only change in the rules of the game. InGermany as in the rest of Europe, the pressure on tax policy is expected to growwith the deepening and widening of the European Union (EU). The shift to asingle currency from 1999 onwards is expected to enhance competition ingeneral and tax competition in particular. The strain will further increase withthe integration of “low tax/low expenditure” eastern European states after 2000.In short, fears of tax erosion and evasion are widespread.

Germany’s fears seem to be particularly justified. Since 1993 its taxrevenues have lagged remarkably behind official forecasts and many people areeager to blame globalization for the loss of revenues3 and are demandingvigorous countermeasures. As in other industrialized countries, some arehoping that global tax competition will help tame the Leviathan, while othersfear a loss of fiscal, social and wage autonomy with severe consequences for thedisadvantaged and socially weak strata of society. In particular, rising“globalphobia”4 is leading to the advocacy of a high level of congruence andcoordination of tax and social policies.

Though the influence of globalization and the loss of national fiscalautonomy seem plausible, the real significance of this must be looked into morecarefully. Two different lines of approach are adopted in the present paper. Firstwe consider the extent to which German tax policies of the past decade havebeen affected by globalization—directly as well as indirectly (II). Starting with


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a short examination of the “globalized” environment, the paper recalls the maintheoretical features which have been discussed as affecting tax policies duringthe last fifteen years. The second line of approach examines the relationshipbetween globalization and various categories of German tax revenues between1970 and 1997 (III). A particular question here is to what degree these revenuelosses can be attributed to globalization. The paper ends with a summary andsome policy conclusions, taking into account not only the potentialprerequisites of globalization but also general expenditure prerequisites as wellas the particular conditions created by German unification and EMU (IV).

GERMAN TAX POLICIES AND GLOBALIZATION

Globalization,5 as represented by a more or less unique expansion of trade(export and import volume, trade balance) and of Foreign Direct Investment(FDI), has shaped the German economy of the last twenty years (see Figure 1).Indeed, Germany had been a driving force in this process. It seems to be obviousthat the mobility of resources involved not only had consequences forproduction and employment in Germany, but for German tax revenue and taxpolicy (and, of course, government expenditure) as well. Identification andattribution of such effects, however, is very difficult and questionable. Whatseems to be clear is that in the public discussion about the appropriate taxationof income or, more generally, about “direct” taxation as well as “indirect” orconsumption taxation, arguments addressing increased competition onEuropean and global markets have played a greater role since the mid-1980s.6

It gained additional momentum as a result of the fundamental tax reforms of the1970s in the United Kingdom and in the 1980s in the United States, on the onehand, and by the establishment of the single market in core Europe in 1992 andwidening tax loopholes for foreign investors as well as by creating tax havensin some European countries on the other.

Theoretical DeliberationsSeveral theoretical arguments,7 which were convincing a priori, lent

support to the view that tax competition and its policy reverberations were onthe increase: the abolition of legal and tariff frontiers as well as the dramaticdecrease of transportation and information costs not only make goods, services,and resources increasingly mobile, but taxpayers as well. Continually exploringpossibilities for tax arbitrage, taxpayers would be likely to “emigrate” fromhigh tax countries to low tax jurisdictions, taking with them taxable income andassets (and even jobs). As a consequence of mobile tax bases, particularly ofcapital and of skilled labor, national tax bases would erode and tax revenues


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diminish. This would force nation-states to make uncomfortable adjustments:either public debt would have to rise (possible, of course, only for a transitionperiod), or the supply of public goods and fiscal transfers would have to be cutback, preferably in a way not upsetting the mobile tax base. In the end, taxcompetition would lead to a “race to the bottom” (i.e., to the lowest tax level),and national tax policy would be more and more determined by foreign taxhavens. The risk is that mobile factors might be subsidized by tax loopholes andovert or hidden transfers,8 starting an international race for tax subsidies.9 Thequestion, “Are your wages set in Beijing?” (Freeman 1995), could equally wellbe posed in the European context, “Are your taxes set in Dublin?” referring toone of the currently infamous European tax havens.

Second round effects of tax losses (the effects in the winner countries likeIreland, the Netherlands, or Luxembourg are usually ignored in the analyses)would unfold on the expenditure as well as on the revenue side of the budget. Asto expenditure, it is understood that it would have to be, more so than in the past,attuned to the preferences and aspirations of mobile taxpayers and the relationbetween the public and private sector would be increasingly governed by fiscalequivalence (“commodization”). More generally, the allocative functions ofexpenditure would govern the redistributive ones.10 Tax policy would becomemore and more “supply-side” oriented: taxation of capital/investment andskilled labor would have to be relieved while the burden on unskilled labor andconsumption would grow. The share of “direct” taxes within the revenueswould decline, compensated by rising “indirect” levies,11 particularly by socialsecurity taxes/contributions. So the entire tax system would become moreregressive. At the same time, fears would arise that globalization was going tocause numerous losses of lower skilled jobs with the implication of even moretaxes for even fewer tax payers.

So a list of third and fourth round effects is easy to imagine—withstabilizing as well as destabilizing effects in the long run. Of particularimportance here would be consequences for monetary policy and collectivebargaining agreements and the different tax shifting possibilities and incidenceresults. However, these implications, whose order of magnitude is difficult toassess, tend to be excluded in the specific analysis of current theoreticaldiscussions.

Tax Policies in GermanyGerman tax policy of the past two decades—enacted with regard to EU-tax

(harmonization) guidelines12—was shaped to a considerable degree in light ofthese arguments. Two qualifications, however, have to be made.


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First, policy was influenced less by an immediate reaction to globalizationthan by a more general mood favoring tax relief, particularly because taxes aspercentage of GDP had soared between 1965 and 1980 from 6.6 to 38.2percent—compared with 2.6 to 26.9 percent in the United States.13

Second, the course was not straightforward and several exemptions weremade. At all events, the frequency of tax amendments, mostly of income andconsumption taxation, increased. In the second half of the 1980s only eight taxmodifications generating total tax relief of 42 billion DM were enacted (seeTable 1), while the next five years—the first half decade after Germanunification—saw 15 amendments with total tax increases of 78 billion DM, thesame number as in the subsequent three years (1995 to 1998), but with taxincreases amounting to 40 billion DM. More and more amendments becamenecessary because parts of the given tax code were declared unconstitutional bythe Bundesverfassungsgericht (German Supreme Court). The government usedthe decisions to achieve substantial (income and property) tax relief. This wasparticularly the case in 1992, 1996 and 1997.14 However, only five revisionswere of macroeconomic importance, exceeding 2 percent of the total revenuesor 1 percent of GDP. The reasons for this were various. Rigidities of the Germanpolitical and public finance system played a role, as well as the requirements offiscal stability demanded by European integration.

Tax policy is orchestrated by the federal government, whose proposalsmust be confirmed by the federal states,15 which have different preferences andrevenue sensitivities, also with regard to the level and structure of taxes andexpenditure. Because of opposite majorities in the Bundestag and Bundesratmost of the time, this was usually a rather time-consuming bargaining processand solutions could not always be found.

Moreover, the actual or assumed demand of German society and theGerman economy for public goods is relatively high, particularly in the interestof maintaining the high level of material and non-material infrastructure inwestern Germany and building it up in the new German states. The same thingapplies to transfers. Almost 50 percent of total economic resources aredisbursed to the federal, state and local levels and through the social securitysystem, of which 20 percent is devoted to explicit interpersonal andgenerational/temporal redistribution. Hence, public expenditure (and therequired revenue) plays an important macroeconomic role, and thebeneficiaries are, of course, very reluctant to give up this income and readilyexpress their discontent at election time. Accordingly, it took ten years to cutback the ratio of public expenditure from about 50 percent of GDP in 1980 toless than 46 percent on the eve of German unification in 1989. Since then it has


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been hiked up to 51 percent in 1993 and reduced again to 48 percent in 1998,whereas unification has cost five to six percent of GDP per year.

Public expenditure is devoted mainly to transfers (50 percent in 1998),public consumption (40 percent), and investment (4 percent); in functionalperspective, it is used for social security (55 percent), for defense and generaladministration (12 percent), traffic and communications, housing andeconomic improvement (10 percent) and for education (9 percent). Interestpayments on public debt, which has soared since German unification fromabout 40 percent in 1990 to 60 percent of GDP in 1998, eat up 7 percent of GDP.In longer-term perspective, the functional pattern of public outlays in Germanyhas favored the least flexible kinds of expenditure—personal transfers—resulting in reduced flexibility in changing expenditure; it has been halved since1970.16

German tax policy has been increasingly influenced by Europeanrequirements, particularly by the fiscal demands of the EMU as expressed in theMaastricht Treaty and the “convergence criteria” set forth in 1992 andsharpened in the 1996 “Growth and Stability Pact” for balancing nationalbudgets. Though it does not aim at taxes directly, it substantially restricts thescope for cutting taxes, despite the fact that there were also a number of otherreasons for refraining from doing so, particularly up until 1997 with respect tofulfilling the (fiscal) Maastricht criteria for Germany’s entrance to the EU’smonetary union.

All in all, the scope for noteworthy net tax reductions has been and still isconsiderably limited, not least as a result of the limited macroeconomic mediumterm growth expectations of 2.5 percent, which cannot be expected to impactthe 1999 unemployment rate of 11 percent very much. The federal governmentis assuming for its mid-term economic and fiscal projections that one has toreckon with 3.5 million unemployed until 2002, implying an unsatisfactory rateof nine percent of the workforce.17 Needless to say, further risks exist: the labormarket and economic development in eastern Germany and the process ofcatching-up with western Germany. Even if eastern Germany can resume itsconvergence with the West, which has slowed in the last few years, the drain onGermany’s economic resources to promote this is expected to remainremarkably high at 5 percent of GDP for considerable time to come.

Recent Proposals and Draft LegislationAgainst this background, in 1995 and 1996,18 the federal government

installed two commissions for elaborating proposals for a comprehensivereform of income taxes to be enacted from 1996 onwards. The first commission(Bareis-Kommission), formed by independent tax experts, was charged with


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elaborating proposals for tax relief in lower income brackets required by theBundesverfassungsgericht in a 1992 decision; it proposed abolishing most taxexpenditure for businesses and workers, in line with prevailing national andinternational tax policies for the past twenty years.

The proposals were dismissed by the government as being too far-reachingand politically unfeasible. To channel the public discussion, the federalminister of finance commissioned a three party governmental committee, whichadopted the approach of cutting the top rates and broadening the tax bases, butwith more attention to political possibilities. These Petersberger Vorschlägewere published in January 1997 and served as guideline for the government’stax proposals released in spring 1997. They tried to unify fiscal requirementswith the alleged economic (allocative) necessity of an overall, significantreduction of tax rates to an “internationally competitive” top level of 39 percent.In order to limit revenue losses due to rate reduction (85 billion DM per year),the tax base had to be broadened by a reduction of tax expenditure (revenuegains of 35 billion DM). However, a (net) tax reduction of more than 30 billionDM per year (0.7 percent of GDP) was not seen as feasible. Therefore it hasbeen proposed to collect 20 billion DM via higher indirect taxes; whether andto what extent the amount should be financed by additional value-added taxes(VAT), where a one percent increase (to 17 percent) would contribute 16 billionDM per year, or excise taxes (e.g., on gasoline, tobacco, alcohol, energy)remained an open question and a central topic in the political struggle betweenthe federal government and the opposition in the Bundestag and theBundesrat.19 “Globalization” was also of importance in the debate. With oftenexplicit reference to the international investor/taxpayer, it was argued that thesystem should be made more understandable and comparable, as well as morecompetitive.20 The proposals failed in the fall of 1998 owing to irreconcilableconflicts between the two chambers of parliament.

After the federal election of September 27, 1998, the government sees—with even greater attention to the fiscal requirements of balancing the budgetand to increasing demands for public investment for important functions liketraffic and education – room for tax relief only in the order of about 15 billionDM (0.3 percent of GDP) and at the earliest in 2002. The proposals include cutsin tax rates and broadening personal and corporate income tax bases, on the onehand, and an increase of gasoline and energy tax (“eco-taxes”) to reduce thesocial security contributions, on the other.21

With respect to strengthening private investment and internationalcompetitiveness, the government plans a reform of self-employed incometaxation by 2000. The main target is to limit the marginal top rate of personalincome tax for the self-employed22 and corporation tax uniformly to 35 percent.


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In line with the general tax policy, revenue losses will be compensated by theclosing of tax loopholes. To this extent, some exaggerated expectations andhopes of the private sector that they would gain from the tax cutting and basebroadening will be have to be disappointed. Compared with the internationalsituation (see Figure 2), the pitfalls of international tax comparisons aside, thislooks rather attractive, at least at first glance. Despite the inevitability of “taxrate illusions,” —looking only at the numerical value of the tax rate, ignoringthe different definitions of the tax base—the proposed reform is presented as animportant sign that German tax policy is accepting the challenges ofglobalization and reacting to it as far as necessary and possible.

GERMAN TAXES AND THE GLOBAL ECONOMY

Though German tax policies have often referred to the necessities of aglobal economy and international tax competition, the actual influence of thesedevelopments and, even more important their factual meaning for investors andtax revenues, are still very much clouded.

Revenue TendenciesBetween 1970 and 1997 German tax revenue increased in line with GDP

growth of almost 6 percent per year on average (See Figure 3); wage taxes andVAT surpassed that rate (7 and 6.5 percent respectively); corporate tax andtrade tax23 lagged behind the general economic development (4.5 percent each);and revenue from wage taxes even decreased by an average 3.7 percentannually. Taken together, wage tax and VAT gained additional shares of taxrevenue and the share of personal income taxes correspondingly diminished.The overall tax quota as a percent of GDP decreased by 3 percentage pointsbetween 1970 and 1997 to an all-time low of less than 22 percent. In the sametime period social security contributions soared by 7 percent to an all-time highof 20 percent.

One might well be tempted to assume that these losses of mobile taxes andthe gains of immobile taxes/contributions were due to globalization. However,the reasons for these shifts are manifold: they range from massive taxexpenditure for backing the transition process in eastern Germany24 and thereform of the family transfer system,25 to the slow growth of the economy as awhole and persistently high unemployment, which absorbs 10 percent of allpublic resources. Though the effects of globalization cannot be ruled outcompletely, there is ample newspaper evidence of large and small companieswidely using the existing possibilities of international tax planning and transferpricing, reacting not only to “shareholder” pressure, but also to the obviously


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reduced costs of business tax minimization.26 Of course this provoked muchanger from the public and from politicians—as Mr. Stoiber, head of theBavarian state government lamented, it is not acceptable that the rich pay taxesin the Bahamas while sending their children to “free” schools and universitiesin Germany and delighting in heavily subsidized German opera productions.

Globalization and Tax Revenue in GermanyEmpirical evidence regarding the effective influence of globalization on tax

revenues is small. One of the few analyses available is the well known study byDani Rodrik. On the basis of panel estimates with annual data for France,Germany, the United Kingdom, and the United States, he analyzed thedependence of so-called effective tax rates on labor and on capital income as afunction of the openness of these countries, represented by the foreign traderatio of GDP. He found that with increasing openness, tax rates on labor incomerise and rates on capital income decrease and with restrictions for capitalmovements as an additional parameter, the influence of openness is evenstronger.

As for tax revenue, in addition to openness, the influence of FDI andvarious representations of the tax base and its variations were tested forGermany over the period 1977-1996. The a priori expectation—a negativecorrelation between revenue and the (explicit) globalization indicator—evolved only for total tax revenue. Even then the effects were small. Anincrease of openness by one percentage point (from 23 to 24 percent of GDP)means on average a total tax revenue decrease by 0.4 percent or DM two billionper year. As for the revenue categories, globalization effects were eitherinsignificant or resulted in a move in the opposite direction. The hypothesis ofa negative correlation between tax revenues and foreign direct investment (FDI)was rejected not only for taxes on profits and capital, though the reaction oftaxes is unrealistically high.

Recursive regression estimates revealed that the reactions and theexplanatory power of the equations did not change much over the years. If therehave been revenue losses for Germany because of globalization, they must havebeen relatively small. The influence of FDI slightly increased, particularly onprofit/capital income tax (on corporations and entrepreneurs, etc.); as to theproceeds of the corporation tax and total tax revenues, there too, the influenceis very minor. As to the impact of openness, the expected negative influencecould be identified neither for total tax revenue nor for the mobile single tax orany others.


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It would have been interesting to examine these findings with data used byRodrik. Unfortunately, this was not possible. One can only surmise that theGerman evidence did not contribute to the “confirmation” of his hypothesis.

SUMMARY AND POLICY CONCLUSIONS

Since the late 1980s the consequences of globalization have been attractingincreasing attention. Globalization has left its mark on German tax policies aswell as on tax policies at the EU level.

Of course, interest in this influence goes beyond immediate consequencesfor revenue: “globalization” might be seen, contrary to Dani Rodrik, as anequalizing force on government expenditure, deficits, and debts. Indeed,theoretical reasoning suggests that taxes have great influence on mobilecapital—financial as well as human—and hence on fiscal revenue, and also onthe level and structure of government expenditure and branches (See R.A.Musgrave: allocation, stabilization and redistribution). However, analysis isoften hampered by limited scope, since it pursues, so to say, only the “pricecompetition” approach and ignores the possibilities of “quality competition,”which may, despite the universality of some government services, justify hightax levels in industrialized countries like Germany.

Though German tax policy of the last twenty years reacted to some degreeto direct and indirect effects of international developments, other challengeswere more significant with regard to shifts in tax policies, including the highelasticity of the German income tax system (“bracket creep”) requiring periodictax reductions, German unification, and the requirements of the MaastrichtTreaty and its successor. The government now envisages some tax reductionsby 2002, but this can hardly be seen as an answer to globalization, particularlyas the government is also enacting a unique program of eco-taxes.

Indeed, as an analysis of the revenues of “mobile taxes” in Germany since1970 reveals, no significant influence of globalization can be detected.Considerable losses of mobile taxes seem to be caused primarily by taxsubsidies designed to foster investment in the new German states. Anothersource is the not always fair tax competition within the EU, which, all in all,probably caused several billion DM or one-digit percentage points of therevenue loss.

However, the test result may not be final, as there are some hints of a greaterinfluence of globalization in the future. Given the emigration of mobile taxesthat has taken place already, the remaining potential is rather limited.

As to policy reactions to these risks in general, a common tax code withinthe EU establishing guidelines and or at least imposing minimal rules for the


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“sensitive” parts of the tax systems seems more urgent. Though such regulationshould leave freedom for national differences, the room to maneuver will besmall. This also means that international tax coordination or evenharmonization within the supposed “club” (as proposed by Robert Z. Lawrenceet al.27) on a supranational, EU or global level could become more necessary,depending on the mobility of tax bases. However, it should not be overlookedthat competition refers not only to taxes as costs for the private sector but alsoas prices for public goods, social consensus and cohesion of society. In brief, itimplies that globalization could more and more relate to competition for qualityof the public goods instead of prices. As a consequence, Germany, like otherOECD-countries, will have to shift the discussion from “price competition” to“quality competition” without confusing this with a license to tax and spend.

Table 1: Tax Amendments in Germany 1985-19981

Revenue Increase/Loss(-)2 in Billion DM and Percent of Total Tax Revenue

Year Date DM % Year Date DM % Year Date DM %

(bill.) (bill.) (bill.)

1985 June 26 -19.7 -4.4 1993 June 23 34.4 4.4 1998 May 26 0.2 0.0

Dec. 19 -1.1 -0.2 Sept. 13 -0.5 -0.0 June 23 -0.1 -0.0

Dec. 21 3.6 0.4 July 16 0.0 0.0

1986 May 15 -0.1 -0.0 Aug. 06 -0.1 -0.0

1994 May 26 -0.2 -0.0 Dec, 18 -1.1 -0.1

1987 July 14 -5.7 -1.2 June 24 -0.2 -0.0

Aug. 09 -0.1 -0.0

1988 July 25 -19.1 -3.5 Oct. 28 -0.1 -0.0

Dec. 20 9.3 1.8 Dec. 21 8.5 1.0

1989 June 30 -5.0 -0.9 1995 Oct. 11 19.0 -2.4

Dec. 22 -0.6 -0.0 Dec. 22 0.9 0.1

Dec. 28 0.0 0.0

1990 Feb. 22 -1.2 -0.2

June 25/26 -0.7 -0.1 1996 Dec. 20 9.4 1.1

1991 June 24 26.8 3.7 1997 April 18 ./. -

August 18 5.8 0.7

1992 Feb. 25 4.8 0.6 Oct. 29 1.6 0.2

Aug. 25 -0.6 -0.0 Nov. 21 -7.4 -0.9

Nov. 09 4.0 0.5 Dec. 19 11.2 1.4

Dec. 21 -0.4 -0.2

Source: Federal Ministry of Finance. 1Up to 1990 the former Federal Republic of Germany. 2Firstyear of taking effect.


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ENDNOTES

1 Cf. IMF, Annual report 1996. New York 1996, p.32.2 Cf. the criticism of P. Krugman, Pop Internationalism. Cambridge, MA, and London

1996.3 For details cf. U. Heilemann, H.D. von Loeffelholz and S. Renn, Erosion derSteuereinnahmen - Preis der Globalisierung der Wirtschaft. Theoretische undempirische Aspekte zur aktuellen Diskussion. RWI-Papiere. Forthcoming.4 Cf. G. Burtless, R.Z. Lawrence, R. Litan, and R. Shapiro, Globaphobia: Confronting

Fears about Open Trade. Washington, D.C., 1998.5 For a detailed presentation of the phenomenon, its many causes, etc. cf. W. Reinicke,Global Public Policy. Governing without Government. Washington, D.C., 1998,pp.11ff.6 Cf. Sachverständigenrat zur Begutachtung der gesamtwirtschaftlichen Entwicklung,Arbeitsplätze im Wettbewerb. Jahresgutachten 1988/89. Stuttgart und Mainz 1988,pp.116ff., K. Löbbe, R. Döhrn, H.D. von Loeffelholz et al., Strukturwandel in der Krise.(Untersuchungen des Rheinisch-Westfälisches Institut für Wirtschaftsforschung 9.)Essen 1993, pp. 56ff., and H.D. von Loeffelholz, Standortqualität der Bundesrepublikin steuerlicher Hinsicht. RWI-Mitteilungen 40 (1989), pp. 183ff.7 Cf. H.-W. Sinn, Capital Income Taxation and Resource Allocation. Amsterdam 1987,D.E. Wildasin, Income Redistribution in a Common Labor Market. American EconomicReview 81 (1991), pp. 757ff., and V. Tanzi, Taxation in an Integrated World.Washington, D.C., 1995, pp.12ff. With respect to Europe cf. H.-W. Sinn, Taxharmonization and tax competition in Europe. European Economic Review 34(1990),pp. 489ff.8 Cf. P.B. Musgrave, Comments in Session on “Foreign Reactions to U.S. Tax Reform”.National Tax Journal 41 (1988), p.365; she spoke of tax competition implying the risksof “hidden agenda for luring foreign capital and subsidizing exports.”9 Such a peril has been discussed among the G 7-countries already in the context of thetax reforms in the 1980s; nowadays it is receiving additional attention from the OECDwhich is currently speaking of tax competition as a “harmful issue.” It could implydemands for rigorous harmonization by administration, which would lead undoubtedlyto the harmonizing of tax burdens on a relative high level, provoking further reactions toevade taxation. Cf. OECD (ed.), Tax Competition. An Emerging Harmful Issue. Paris1998.


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10 This would happen despite the fact that “globalization” is sometimes assumed toincrease the labor market difficulties, subsequently causing an increase of social securityexpenditure, cf. e.g., D. Rodrik, Has Globalization Gone Too Far? Washington, D.C.,1997, pp. 11ff. For a different, much less pessimistic view cf. IMF, pp.32ff.11 The emphasis on taxation of consumption would seem to be favorable also from thepoint of view of trade within the European countries, given the destination principlebased on the border adjustment with tax reimbursement. For instance, changing the taxstructure in Germany from “direct taxes” (45 percent of tax revenues 1997; socialsecurity contributions excluded) to “indirect” levies (55 percent) through, say, hiking upValue Added Tax (VAT) by one percentage point (16 billion DM) and throughcorresponding reduction of income tax would it make unnecessary c.p. to shift parts ofthe “direct” burden via higher export prices to the global market.12 These guidelines released by the EU-commission and aimed mainly at the functioningof the single European market to ensure free movement of goods, services, capital andlabor within member states have therefore referred to harmonization of indirect taxation(rates and bases of VAT) and to a far lesser degree - with some minor exemptions - todirect taxation. For the history of EU-tax policy since the mid 1960s cf. L. Tsoukalis,The New European Economy Revisited. Oxford 1997, pp. 102ff.13 Cf. OECD (ed.), Revenue Statistics 1965-1997. Paris 1998, p. 79.14 On January 19, 1999, the Bundesverfassungsgericht made a fiscally and economicallyfar-reaching decision which runs against the challenges of globalization; it decided thatthe income taxation of families was not in line with the Grundgesetz, particularly with itsArticle 6 which prescribes that marriage and the family stand under particular protectionof the state. It obliges the legislators to correct the tax code by the year 2002, implyingrevenue losses of about (gross) 20 to 30 billion DM p.a. (almost 10 percent of incometax revenue).15 Almost three-quarters of total tax revenues are assigned by the fiscal constitutionjointly to the federal, state and local level. The proceeds stemming mostly from the(personal and corporate) income and the value added tax are (re-)distributed to thedifferent levels with certain quotas; this leads to a ratio of 50 percent (federal level;1997) to 38 percent (state level) to 12 percent (local level). The share of the states hasincreased since the 1960s, when it stood at 30 percent and was boosted particularly byGerman unification; the “loser” has been the federal level. For the long-termdevelopment of the fiscal federalism in Germany cf. U. Heilemann and H.D. vonLoeffelholz, Fiscal Federalism in the FRG: A Critical Approach. In: H.-E. Scharrer, M.Smith and L. Waverman (eds.), Regional Economic Integration and the Workings of AFederal System. Centre for International Studies & Centre for Trade Policy and Law(4th Canada-Germany Symposium.) Toronto 1995, pp. 65ff.16 Cf. H.D. von Loeffelholz and H. Rappen, Perspektiven und Optionenniedersächsischer Finanzpolitik in den neunziger Jahren. (Untersuchungen desRheinisch-Westfälischen Instituts für Wirtschaftsforschung 11.) Essen 1994, pp. 61ff.


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17 Cf. U. Heilemann and H.D. von Loeffelholz, Fiscal Perspectives for the 14th

Legislative Period. Germany After the Election. AICGS Research. Washington, D.C.,December 1998, pp. 13ff.18 For German tax policy in first half decade after German unification which wasprincipally directed at financing the corresponding outlays out of the purses of socialsecurity systems cf. U. Heilemann and W. Reinicke, Welcome to Hard Times. TheFiscal Consequences of German Unity. Washington, D.C., pp. 42ff.19 Another reason was the bias in favor of the upper income brackets increasing the

already existing “lack of demand“ as well as the “lack of equality.“20 A fierce debate arose about the actual/factual differences in international taxation; itwas pointed out that the effective rates in Germany are much lower than the nominal onesand insofar already “competitive.” Cf. the international comparison of effective tax rateson capital (and labor) in OECD (ed.), Economic Outlook No. 61. Paris 1997, pp. 19ff.21 The two essentials are as follows. First, reduction of the income tax burden. It consistsof three steps to be taken in 1999, 2000 and 2002: Second, to reduce social securitycontributions in the next three years by 0.8 percent each year from the current level of42.5 percent of the wages (employer’s and employee’s portion together) to below 40percent; it is going to decrease the revenues by about 45 billion DM; it will be financedcompletely by (higher) gasoline and energy taxes. This means a eco-tax hike of about 50percent in relation to the given eco-levies. For details cf. U. Heilemann and H.D. vonLoeffelholz, pp. 14ff. For an international comparison of eco-taxes cf. OECD (ed.),Environmental Taxes in OECD Countries. OECD Working Papers, 74, Paris 1998.22 It is noteworthy that a reduction of the general top rate is planned from at present 53percent (not including the solidarity surcharge of currently 5.5 percent on the taxliability) to only 48.5 percent.23 The trade tax (Gewerbesteuer) amounting to almost 50 billion DM p.a. or 1.2 percentof GDP (figure 3) is a additional levy on the income of certain categories of the self-employed; it resembles the franchise tax levied in some states of the United States.24 For details cf. U. Heilemann and H. Rappen, The Seven Year Itch? German Unityfrom a Fiscal Viewpoint. AICGS Research Report No. 6, Washington, D.C., 1997, pp.2ff.25 The transfers were subtracted from the tax revenues instead of being added to thepublic outlays implying a “cosmetic“ reduction of the tax share of GDP in line with thesupply side tax policy; it was directed at reducing public influence on the allocation ofeconomic resources. Cf. also footnote 16.26 Cf. the various possibilities S.C. Gwynne, Just Hide Me My Money. TIME, December

14, 1998, pp. 38ff.27 Cf. R.Z. Lawrence, A. Bressand and T. Ito, A Vision for the World Economy.Openness, Diversity, and Cohesion. Washington, D.C., 1996, pp.79ff.

Rudolf Petersen

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INFRASTRUCTURES FOR GLOBALIZATION: TRANSPORT,TELECOMMUNICATION AND ENERGY SUPPLY

Rudolf Petersen

INTRODUCTION: WHAT’S NEW ABOUT GLOBALIZATION?

International trade and transnational economic activity as well asmultinational companies have long existed, but in recent years nationalrestrictions have all but vanished. Traditionally, international activities weresubject to national or host market rules. Now, the role of the nationalgovernment and its power to regulate economic activities is fading. At leastuntil the international financial crisis of 1998, a broad consensus appeared toexist among statesmen, the banking community, leading economists, andindustrialists that national governments should not interfere with the economicactivities of the private sector. The current crisis reveals a preference forgovernmental intervention to rescue bankrupt private institutions. Presently,nearly all important European countries are governed by socialist or socialdemocratic parties, which do not believe in the ability of the markets to solve allproblems.

Infrastructures have dramatically changed during the last decade and havefacilitated globalization of financial services and of goods trade. But most of thetransport activities still take place on the local and regional as well as nationallevel, and decisions are dominated by those perspectives. The internationalaspects increasingly influence the decisionmakers, and the need to be preparedfor globalization affects policy decisions locally as well. Being able toparticipate and to compete in the global economic race is a rationale deployedin debates on highway construction, increase in airport capacity, informationpolicy, and energy taxation.

The transport, energy and telecommunication sectors not only provideinfrastructures for the globalization process; simultaneously, they compriseglobal markets themselves. Production of hardware—vehicles for transport,natural energy resources and telecommunication equipment—is one side of thebusiness; organization, know-how and service is the other.

INFRASTRUCTURES FOR GLOBALIZATION

Global markets for goods and services comprise one element ofglobalization; local and regional relations are redefined by transnational andtranscontinental markets. Economic and organizational integration ofproduction facilities and distribution channels in distant countries is a further


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sign of globalization. The third element is the exchange of know-how inproduction and marketing, both by an exchange of staff members and byglobally available information.

In the history of trade, volume of goods flow used to be rather small andexchange relations were characterized by structural asymmetries. Tradersbought specialties and made their profit by selling specific goods on distantmarkets where they were not yet available. The value of a product and the profitwas based on the fact that it was a rare and very special product. Today’sglobalization unites highly homogeneous product markets. Profit derives notfrom unique local and regional products but from regional differences inproduction costs. Cost advantages are reaped via low local labor costs and theeconomies of scale in development, production and distribution of goods andservices. Globalization as we know it today is the organizational integration ofeconomic processes over the continents.

Management of global economic processes requires teleconnections byonline telecommunication, as well as short travel and transport times. Advancedtelecommunication and transport infrastructure are a requirement forglobalization. The development of transport and telecommunication towardsglobal networks can only be understood by considering regional and nationalstructures. On the one hand, establishing global transport and telecommunica-tion infrastructures can be seen as a geographical extension of previously localand regional networks. On the other hand, exchanges of information, personsand goods over large distances are structurally distinct from activities on thelocal and regional levels. Establishing advanced telecommunicationtechnology is dissimilar from the gradual growth of contact that we know fromnear proximities. Both scenarios yield insights into globalization.

Cost-effective teleconnections on a global scale could only be establishedbecause of cheap natural resources. Energy resources deserve special mentionin this regard. Exchange of goods and persons by ships, motor vehicles andairplanes is based nearly exclusively on crude oil. In the telecommunicationsector, the role of the energy market is less significant, but low energy priceshave also contributed to the establishment of the existing comprehensivetelecommunication system. Cheap energy resources have also contributed tothe establishment of today’s modern satellite based telecommunicationstructures. Large energy and material resources have been consumed and willcontinue to be needed for systems which enable exchanging online-informationfrom one point of the Earth to every other point.

A quantitative analysis of resource needs for globalization related activitiesis rather difficult. Most structures that support global activities also findeveryday use in the organization of life on the local and regional level.

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International shipping and international air transport are influenced byglobalization, but national development is also intensified by the globalizationprocess. The dynamics of technical development and the behavioral changes onthe part of the users cause internal feedback loops between global technologiesat the local as well as regional level. This effect is twofold: fast and cheaptransport and telecommunication infrastructures initiate spatial reorientation ofsocial and economic activities favoring longer distances. By the same token,new opportunities also transform social and economic activities in traditionalgeographical action domains.

Moreover, in their role as facilitators of globalization, the transport,telecommunication and energy sectors have themselves been early products andservices marketed worldwide. At work is an internal systemic logic: thoseproducts and services required for the global economy had to be establishedvery early on all markets in order to guarantee compatibility. Compatibility bothfor transport terminals and telecommunication devices is enforced by similarityof products and services as well as establishment of uniform conditionsgoverning the local market. Once in place, infrastructure created incentives forinternational organizational and financial cooperation. Economic actorsbenefiting from infrastructure have used their strength to penetrate localmarkets, taking advantage of their know-how and marketing.

GLOBAL TRANSPORT PERSPECTIVES

The automobile has transformed the structures and public space of everyday life like no other product during the last century. In 1995 more than 650million motor vehicles were in use worldwide, mostly passenger cars (about500 million). Distribution between the wealthier and the poorer countries isvery uneven. OECD countries with about 20 percent of the world’s populationown about 81 percent of all passenger cars. Those 80 percent of people living inthe poorer countries only own one-fifth of the world’s fleet; and these countriesalso account for only about one-fifth of global vehicle kilometers and roughlyone-fifth of motor vehicle fuel consumed.

OECD countries are also the major participants in global trade. Thetransport volume, expressed in passenger kilometers and ton kilometers, ishighest between countries with high average income and high gross nationalproduct (GNP). The backbones of trade are shipment, truck transport andinternational air transport, which account for the parallel increase in businesstrips. The most frequented transcontinental transport connection is the NorthAtlantic route between Western Europe and the United States, which comprisesthe most important centers of economic activities. About one-third of global air


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passenger kilometers can be accounted for here; a similar share of world airtransport relates to domestic North American flight activities, with theremaining third flown in the “rest of the world.”

Between 50 and 70 percent of air transport demand relates to private, leisureand tourist activities. According to a Gallup inquiry in 1993 only 48 percent ofall passengers in the U.S. were business travelers, the majority traveled forprivate reasons, a share that is constantly growing. The situation is similar forinternational flights from Germany. A discussion of global transport activityonly from a business point of view would neglect the fact that globalization isdriven by international tourism and international private travel. Tourismalready claims the title as the world’s most important economic sector andbiggest employer, exceeding even information and car production.International tourism contributes to the development of that global network ofinformation and transport links that also promotes business links. It also worksthe other way round: those global infrastructures which enable economicinvestment and production facilities in distant countries and which enablecontrol of global economic activity, respectively, also act as driving forces forinternational travel activities of private customers.

Growth of air transport demand may be the most impressive figure tocharacterize the development of the globalization process. Worldwidepassenger air transport has increased by a factor of about ten during the lastthirty years. With current growth rates of about 5 percent per year that areexpected to continue, passenger kilometers will double every fifteen yearsduring the coming decades. The number of takeoffs and landings has notincreased by the same figure compared to the number of passenger kilometersdue to a trend of larger airplanes with higher seat capacity, and due to a specialgrowth of demand for long distance flights. Instead of a 100 percent increase infifteen years which is expected for passenger kilometers, only an increase ofabout 60 to 70 percent in the number of individual passengers can be expected.Passengers will travel longer distances and this leads to the kilometer increase.Because of the cited trend towards larger units, the capacity increase of airportscan be limited to “only” 50 percent over the next fifteen years. In Germany,capacity problems exist mainly in Frankfurt and Düsseldorf, where capacityincreases have been scheduled. There is a trend towards smaller regionalairports in order to serve business travelers from the region, but the maincommercial prospect lies in developing the tourist market with direct flightsfrom German regions to sunny destinations around the Mediterranean Sea andthe Canary Islands.

Competition between German airports and airports in neighboringcountries is stiff, as is competition between the large national carriers of

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Germany, France, Great Britain, Switzerland, and so on. Those nationalcarriers—in public or private ownership—also stand for important homelocations which are used as hubs within the international transport network.Frankfurt, Paris, London, etc. are the starting point for internationalconnections of the respective national carriers. These main airports are servedwith feeder flights from smaller airports of a secondary German and Europeannetwork. With the hub-and-spoke system, international destinations can beserved cost effectively with large units, while for the shorter flights, smallerairplanes with less seat capacity can be used flexibly according to demand.About 63 percent of all takeoffs in German air transport relate to flight distancesof up to 800 kilometers, with about 40 percent of all passengers. The figure of63 percent is a most important one with respect to capacity of the airportrunway; the figure of 40 percent is important for assessment of capacity ofpassenger facilities. For energy consumption and greenhouse gas emissions, theshare of short distance air transport is far lower: only about 8 percent of allpassenger kilometers can be accounted to flight distances below 800kilometers. More than 90 percent of transport activity in terms of passengerkilometers relates to the medium range (in Germany mainly the tourist flights)and the long range (both business and tourist). Growth rates over long distancesare highest in the air market. Although the dominant trend is consolidating thehub-and-spoke system, a pattern of decentralized point-to-point intercontinen-tal connections from secondary airports in Germany can also be observed.Connections linking Düsseldorf and Philadelphia, Berlin and Baltimore,Munich and points in Asia have been introduced in recent years though theyhave limited importance for the overall volume.

In the air cargo sector some plans exist and investments have been made inspecial cargo facilities with diverse production and logistics. The U.S. BechtelCorporation is involved in the development of an airport project, BerlinInternational, which in fact is in the state of Saxony-Anhalt, north of theprovincial capital of Magdeburg. The idea is to establish Europe’s largest cargoairport, intended as a distribution center for international cargo for Europe andat the same time attract regional investments in production facilities near therunway. On a larger scale, there is a similar project in North Carolina which hasbeen operating for about ten years.

An important repercussion of globalization for local transport and spatialinfrastructures is the subordination of local decisions to global marketexpectations. In effect, daily mobility demands over short distances aredevalued although they make up by far the most trips. The global perspectivemakes the local perspective seem less important.


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TELECOMMUNICATION

With the telegraph, first used in 1847, information could be transmittedwithout delay. From 1877 on, telecommunication with spoken words bytelephone was the next important step. Within a few decades, cable networkswere established to link cities, countries and—due to the first transatlantic cablein 1858—even continents. The telex enabled offices to communicate writtenmessages from 1930 on; the fax machine was already invented at that timealthough it didn’t enter the broad market before the 1960s. The 1970s saw thefirst analogue cellular phones for a still small private and commercial market,data transfers via cable, as well as cable TV. The number of telecommunicationservices exploded in the 1980s: fax machines became a must in all offices, on-screen text on TV, cheap and reliable remote control, video-conferencing, andseveral forms of city-call beepers were established in various niches of thetelecommunication market. The 1990s offer even more services for thecustomers: voice mail, voice fax, the online newspaper, digital mobile phones,and, most important, the Internet as a combination of personal computers andtelecommunication. Now, comprehensive global telecommunication is nolonger a privilege of military services and big companies but is affordable by thecommon citizen—at least in the wealthier countries. But basically, all theseservices are also available on the markets of Third World and developingcountries.

Access to global information can be characterized by ownership rates oftelecommunication equipment. In Germany,1 98 percent of households wereequipped with TV sets in 1996, 30 percent had satellite TV receivers. Thirty-two percent of all households had access to personal computers in that year. Atthe beginning of 1999 the figures will be significantly higher. Eighty-ninepercent of households had telephones—more than 40 million. The number offax machines was 4.5 million, the number of cellular phones (“handy” inGerman) was 5.5 million and these figures will also have increased by now.Annual growth rates in the telecommunication sector are estimated to be 10 to20 percent.

In a recent study2 the material flows and some environmental consequencesof this huge number of new devices for telecommunication in Germanhouseholds and offices have been evaluated. The TV sets, telephones,computers, copiers, etc., account for a total mass of 3,200,000 tons. With massanalyses of all important articles, i.e., a breakdown of the masses of iron, othermetals, plastics, glass, chips, etc., total materials built into thetelecommunication equipment have been calculated. But these directly built-inmaterials are only part of the problem. All materials have symbolic “Rucksacks”

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which contain all masses3 and energy resources needed for production of thesegoods “from cradle to grave.” A comprehensive balancing of these materialsand energy flows has not yet been made. Estimates have been published for onlya few aspects. Copper has been found to carry an “ecological Rucksack” of 500kg for each kg in a product. Of the estimated 391,000 tons of non-ferrous metalsin telecommunication products operated in Germany, the majority will becopper. A cradle-to-grave evaluation shows a gigantic material flow for thismetal which is essential for all kinds of electric and electronic equipment.

The mass figures given above are only for the products themselves, not forinfrastructures and other related activities and facilities. The technologies andinfrastructures behind the products and services have never been evaluatedcomprehensively. The European Commission is just preparing a study entitled“Eco-Balancing of the Information Society.” Thus, the idea that the informationsociety is clean and environmentally favorable may turn out to be fictitious. Sofar, environmentalists have turned their criticism on heavy industry stacksspewing smoke and acid emissions, or on motor vehicles. Though theinformation sector has not yet become the focus of environmental groups, andeven less of environmental policy, information infrastructures may be no lessharmful to the environment than roads: the German telephone network consistsof 169,000 km of copper cable, 300,000 km of glass fiber cable, and so on. Thecopper network alone contains 300,000 tons of copper, which results in an“ecological Rucksack”—with the factor mentioned above—of 150 milliontons.

The “hidden energy” of a personal computer has been calculated in severalstudies, with results between 13,400 MJ and 53,500 MJ (cited by the GermanBundestag 1998). The U.S.-based MCC Corporation has estimated an energyconsumption of 126,000 MJ for the production of a workstation. The MCCstudy notes particularly the high energy demand for the production of chips, aswell as some serious environmental concerns regarding toxic emissions, wasteand effluents. All that can be said confidently at present is that the realenvironmental costs of information technology are unknown. The same will betrue for the social dimension, a topic that lies wholly outside the bounds of thischapter.

Another research gap in the information sector concerns global satellitenetworks. More than 22,000 satellites have been launched during the lastdecades, with telecommunication being a major part of the current activities.Satellite history is reviewed in articles published by NASA historians.4 Since1965, when EARLY BIRD became operational, telecommunication serviceprices dropped due to the fact that this kind of satellite provided almost ten timesthe capacity of the submarine telephone cables at almost one-tenth of the cost.


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According to the source, the price-differential was maintained until fiber-opticcables were laid in the late 1980s. Currently, a new initiative is being preparedto create a global optic-optic network 168,000 km in length—projectOXYGEN. Although the consortium does not yet seem to have been successfulin attracting financing,5 the project illustrates the reaction of the cable branch tothe challenges of satellites. The consortium plans to go into operation withninety-nine global access points in seventy-eight countries by 2000. Prices fordata transfer are expected to drop significantly, as has begun to occur as theAtlantic Crossing went into commercial service in May 1998.

The main advantage of satellites is seen in global point-to-pointtelecommunication based on cellular phones. The new Personal Communica-tion System (PCS) enables mobile word and data transmission via satellites(LEO), operating in low orbits of about 500 miles. But these low orbits limit thelifetime of the satellites so that continuous replacements are needed.

In the recently published book,6 Factor Four—Doubling Wealth, HalvingResource Use, examples are given to demonstrate how advanced technologiescan significantly reduce resource use. Referring to a source from 1994, theenergy efficiency of a fax machine used only twice a day is shown to be betterthan for a conventional letter by a factor of two; for higher use frequencies offifty times a day there is a factor of twenty compared to a letter. Referring toSchmidt-Bleek (see endnote), the material flow advantage of faxing an overseasmessage instead of sending a letter is estimated at a factor of twenty. For e-mailing, estimates from the Wuppertal Institute are cited, giving the materialflow for a 10 gram letter from Germany to Colorado as being about one poundincluding paper production and transport. Calculating the material input fortelephone lines, satellites and computers, and dividing it by the number ofmessages sent, the Wuppertal Institute calculated a material Rucksack of 5 g fora 10 kilobyte message, compared to one pound for a conventional letter. Thiswould be a factor of one hundred!

CURRENT AND FUTURE ENERGY DEMAND:SUPPLY STRUCTURES

Since 1950, world energy consumption has increased from about 75Exajoules7 by a factor of more than five, while the population has “only”doubled. About 85 percent of today’s demand is met by fossil fuels, producingthe greenhouse gas carbon dioxide (see below). Thus, the world’s energy supplyis based upon non-renewable resources that are limited in supply and causeirreversible damage to the globe. Those countries driving the global economyuse most of the resources and cause most of the environmental damages.

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International energy data from 1994 have been analyzed in detail. Of theglobal supply, about 40 percent was from oil (51 percent of which for transport),21 percent from gas, 24 percent from coal, 6.3 percent from nuclear energy, 2.7percent from water power generation, and 6.5 percent from other sources. Theconsumption sectors are transport with about 21 percent (98 percent of whichfrom oil), industry 38 percent, electric power generation 19 percent, andhouseholds and small businesses 23 percent. The regional distribution: OECD54 percent, former Soviet Union and Eastern Europe 15 percent, “rest of theworld” 31 percent.

The numbers demonstrate that specific energy consumption in the variousregions and countries of the world differs significantly. In 1990,8 the globalaverage was estimated to be about 62 GJ per capita, with Luxembourg holdingthe top position with 383 GJ per person, in second place the U.S. with 317 GJper person, then Sweden 232 GJ per person and Saudi Arabia 205 GJ per person.For reunified Germany, an average of 186 GJ per person was calculated, withthe regions of former GDR showing a higher figure of 206 GJ per person thanthe Western FRG (180 GJ per person). According to German official sources,9

average energy consumption per capita in Germany has declined slightly since1990 to 174 GJ per person in 1997. For the U.S., a value of 331 GJ per personis mentioned in this publication, referring to data from the International EnergyAgency (IEA).

Reduction in energy consumption in Germany has been characterized bythe term “wall-fall profits,” which refers to the fact that in the former GDRenergy efficiency both in the private sector and in the production sector waspoor. Also in goods transport, energy consumption was high although rail hada very high share. Goods transport volumes specifically were much higher thanin the West, while in passenger transport fewer kilometers were driven percapita. The passenger cars’ fuel consumption was lower in the GDR due to itssmaller size.

In Germany, crude oil accounted for about 40 percent of primary energyconsumption in 1997, natural gas for 21 percent, black coal 14 percent, nuclearenergy 13 percent, lignite 11 percent, others about 2 percent. In the U.S., datahave been published10 with petroleum products showing a share of 40 percent ofthe 1993 primary energy consumption, natural gas 25 percent, coal 23 percent,nuclear energy 8 percent, and others (mostly hydroelectric power) 4 percent.

Although the level of per capita energy consumption in the U.S. is nearlytwice as high as Germany (331 GJ per person to 174 GJ per person), the relativestructure of resource use seems to be very similar. Crude oil consumption percapita in 1997 has been estimated11 to be 1.547 kg for Germany and 2.780 kg forthe U.S.—this is similar to the ratio of the total primary energy consumption


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between both countries. For Germany, transport energy consumption isunderestimated in the air transport sector, because the balancing regulationsrequire that the energy consumption of return flights be charged to the countriesof destination. A true accounting of the air related energy consumption ofGerman travelers would result in higher per capita figures.12 For the U.S., thiseffect also exists but its relative weight is smaller due to the far higher share ofdomestic flights.

Energy consumption trends of the last few years still show an increase.Worldwide, from 1990 to 1995 an increase of 5.4 percent has been observed,with the U.S. above the average with 8.5 percent more, Europe only 3 percentmore. For Asia, an increase of more than 27 percent has taken place, SouthAmerica 21 percent, and Africa 13 percent. The higher growth figures of thedeveloping countries must be seen together with their very low absolute levels:the U.S. energy consumption is about ten times higher than the South Americanaverage, and higher than the European average by a factor of 2.4. The Africanper capita consumption in only 4 percent of that of U.S. citizens, 8 percent ofthat of a German citizen and 9.6 percent of the European average. Asia—without Japan and Korea, affected mostly by China and India—also has a verylow per capita consumption level that is about 5.4 percent of the U.S. average.

Per capita energy consumption also continues to grow globally. The U.S. asthe world’s largest consumer has increased its consumption by 3 percent, Japanby 11 percent, Europe less than 1 percent. European consumption growth camefrom Southern countries like Spain (plus 13 percent) and Italy (plus 4 percent),but also the more advanced countries like Great Britain (plus 3 percent), France(plus 4 percent) and even the Netherlands (plus 6.5 percent) still showincreasing energy consumption. We can assume that the reduction in Germany(minus 7 percent) really is a consequence of reunification and the collapse of theinefficient East German economy.

The data show that neither the U.S. nor the European economies havealready reached the turning point from increasing to decreasing specific energyconsumption. The advanced societies still need more energy per capita eachyear. Energy demand in the developing countries is increasing more rapidly dueto two factors: growing population and industrialization. For China both factorsresulted in a 30 percent increase of primary energy demand—a comparativelylow level of about 10 percent of global consumption compared to 25 percent inthe U.S. Africa exhibits a different trend: the continent’s slight increase inconsumption was a consequence of population growth; the per capita figuresdid not change. From this it is hard to avoid the conclusion that economicdevelopment was not furthered at all. Energy consumption is closely related toeconomic growth.13 Growing economies all over the world show an increasing

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energy demand although the ratios of GDP to energy demand are quite different.For electricity generation, the average of the IEA countries shows an increase of100 percent in fossil energy use with the doubling of GDP; for the transportsector it is about the same. Decoupling energy consumption from GDP has notyet been reached in the member countries of IEA.

In Germany, the demand in GJ per 1,000 DM GDP has been reduced from5.12 in 1991 to 4.63 in 1997—this could be called an improvement in energyefficiency.14 On the other hand, it is well known that GDP is a poor indicator ofwealth when environmental matters are taken into account. This is not a correctindicator for sustainable development, counting only market transactions andneglecting long-term aspects. If economic growth were interpreted by thismethodology, global development could encounter severe problems, e.g., withrespect to energy-related greenhouse gas emissions. Both the developmentindicators and the development patterns of the past offer little guide forsustainability.

Crude oil is the energy resource traded most globally. About 60 percent ofthe world production is transported by a fleet of about 300 large tankers—causing routine global maritime pollution by oil spills and severe disasters fromtime to time. About half of the global carrying capacity of 270 million tdw is byvery large crude carriers of up to 275,000 tons. Transport costs dropped fromabout 60 percent of the load’s value in 1970 to about 5 percent some five yearslater, due to the introduction of the super-tankers and overcapacity.15 Freightrates have increased a little since that time but are still below $1.00 per barrel.

Within the transport sector, air transport fuel shows the fastest growingenergy demand, although, of course, motor vehicle demand is higher in absoluteterms. Due to the growth expectations cited in the section on transport, thenumber as well as the size of the commercial airplanes will increase, providingnearly three times more seat capacity in 2016 than today.16 Specific fuelconsumption will most probably not be improved more than 1 percent per year,which results in an absolute fuel consumption growth of about 100 percent overthe next twenty years.

A further area of concern within the transport sector is goods transport bytrucks. According to the WEC Trend Scenario from 1995, truck energyconsumption will exceed passenger car fuel use in 2020. Together, air transportand trucks will increase their fuel consumption share from 50 percent today toabout 70 percent, because significant improvements in fuel economy arepredicted for passenger cars. Alas, the current trends in specific fuel economyof passenger cars are rather different: while in the U.S. an average passenger carconsumes about 2,300 liters per year, the European average is only half thisamount.17 Fuel prices correlate negatively with fuel consumption of the cars,


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which is a result of car size and annual kilometers driven. Higher car densitymust also be taken into account: for the U.S., 510 passenger cars and 250commercial vehicles per 1,000 have been counted, resulting in a motor vehicleownership of 758 per 1,000 in 1995. For Germany, those data read 501, 45 and548, respectively.

Although U.S. industry and policy also work on highly efficient cars,18 thecurrent market trends and the low fuel prices make a shift in market preferencesvery unlikely. Without adequate price strategies or enforced fuel economystandards, the U.S. will hardly be able to change its transport system towards amore sustainable structure, and may be very vulnerable both as an energyimporter and a car exporter. If the U.S. had the passenger car fleets and thepassenger car use of Europe, it would not have to import oil. If the car industryhad a large home market for efficient cars it would be more competitive in themarkets of the future.

The recent fall in prices on the international oil market is counterproductivefor consumer countries because it undermines both political measures andindustry investments for higher energy efficiency. Policy interventions aimed atdecoupling national fuel prices from international price fluctuations throughprograms such as variable eco-taxes may be a solution. Current globalcompetition, on the other hand, may force the national governments also inEurope to let the national industries gain full advantage of the low energy prices,thereby conserving non-sustainable structures.

INTERACTIONS BETWEEN THE SECTORS

Transport, energy and communication systems have existed for thousandsof years, but the technological and systemic parameters have changeddramatically. Transport vehicles and infrastructures have enabled people totravel a thousand miles per month on average, with some businessmen ortravelers moving around the globe in one day. Goods distribution is nowadaysprecisely organized over continents. It is normal to buy Taiwanese computers inMunich, German beer in San Francisco and Californian wine in Hong Kong, aswell as Norwegian mineral water in Saudi Arabia. International trade has madegiant progress since the days of sailing ships and steam engines, and thetransport volume has grown.

As discussed above, transport, energy and telecommunication are basicfactors of globalization. In each of these areas, technology and its systemarchitecture come together, forming infrastructure. Transport, energy andtelecommunication infrastructures integrate continuously, offering newchances for economic and social activities, but also creating new risks.

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Technologies induce new desires, influencing living conditions and changinglife-styles. More than the sectoral technologies, the systemic nature ofinfrastructure and intersectoral synergies lead to new constellations to whichpeople and enterprises react.

From the moment when information traveled faster than people and goods,organization of transport changed dramatically. Information travels ahead oftravelers and prepares the way for goods, making traveling and goods transportmuch more effective. On a local scale, transport telematics will help organizethe routine daily trip from home to office by delivering online information aboutroad conditions and ways to avoid congestion. Physical transport of people andgoods may even become unnecessary: we can read the news online or downloadthe latest CDs.

Telecommunication allows us to disregard distances. By looking into thespecial offers of a computer shop in Hong Kong, a bookshop in London orseeing exciting films about tourist destinations, immaterial contacts areestablished that often materialize in physical transport later on, be it delivery ofproducts or a sightseeing trip. While the capability of substituting informationfor transport is often discussed enthusiastically by those promoting tele-working, tele-shopping, teleconferencing, faxing and e-mailing, the inductioneffect of information on transport and energy demand is mostly neglected.

The special quality that makes transport and telecommunication supportglobalization is international compatibility of products and services. One mustensure that a ticket sold in Germany is valid for traveling in the United States,and one must guarantee that a fax message transmitted from any place in theworld can be read in any place in the world. Compatibility is a result ofcoordination and cooperation in multinational bodies, and it is in the interest ofthe involved parties to avoid costly errors and loss of time.

Being able to pay with a credit card in any shop in the world and to makeinvestments in Korea by signaling with a finger in Frankfurt are not onlyevolutionary steps in the telecommunication chain from the marathon runner tothe telephone, but also provide a new dimension. Making an investment bybuying stock can be observed by other investors all over the world, and it createsfeedback loops. The complexity of reactions and the speed of reactionscharacterize system behavior. In the 1960s, Japanese, German and Americancar manufacturers were competing on different markets with very slowinnovation cycles. Products and markets were developing slowly and thefinancial side of the business demanded stability and long-term planning.Nowadays, customers’ reactions are the object of permanent observation andinfluence the production spectrum instantly. Flexible production enables themanufacturer to change anything within an extremely short time and enables the


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marketing divisions to shift the interest from one market to the other; productscan even be distributed within days according to international demands. But,this increase in speed and flexibility makes systems unstable. The moreparameters that can be changed and the more changes that can be immediatelyimplemented, the less predictable a system becomes. Also, transport and energydemand become less predictable.

Speeding up transport and establishing total telecommunication offersadvantages for those who have access but only positionally consider transporttelematics with respect to information about congestion and preferablealternative routes. When too many people have access to this information andfollow the recommendations, the partial advantage no longer exists. Thealternate routes also get congested. To say it more abstractly, when informationaccess is broadened, complexity of the system becomes so large that erraticreactions may occur.

Experience has shown that complex social systems like urban transportcannot be managed centrally but consist of chaotic sub-systems which adapt tothe actual situations. Inefficiency exists in traffic in Los Angeles as well as inJapan, and all previous approaches to manage the situation—in Los Angeles byadding another four or six highway lanes to the existing eight, in Tokyo byimplementing new fees and regulations and speeding up public transport—havenot resulted in planned rationality. When we imagine transferring the systemarchitecture and the system behavior of transport in regions to an internationalscale, non-predictability and lack of steerability will most likely result insignificant losses. Nevertheless, for the participants in regional transport thereis both a technical need to do so and an internal economic logic. In a globalizedsociety, such transnational imperatives may develop at the international levelwith the risk that energy consumption and environmental degradation will bemultiplied.

ENVIRONMENTAL ASPECTS

The new global challenge with respect to the environment is globalwarming due to an anthropogenic increase in atmospheric CO2 concentration.There is no serious doubt that our CO2 emissions cause additional greenhouseeffects, associated with global climate changes. This paper will not discuss theexpected changes in detail. Research is still ongoing about temperatureincreases, changes in rainfall and melting of polar ice masses, etc. With respectto globalization it will concentrate on the political and economic consequencesof the global warming topic.19

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At the FCCC Conferences in Berlin in 1995, the follow-up in Geneva in1996 and especially at the Third Conference of the FCCC member states inKyoto in December 1997, an agreement was developed that obliges theindustrialized countries to reduce their greenhouse gas emissions by an averageof 5.2 percent by 2008/2010, compared to 1990 levels. The countries’ targetsare different, with the U.S. agreeing to a reduction of 7 percent and the EU to 8percent where again the contributions from the member states are averaged out.The EU ministers decided in Manchester in 1998 on the key. Germany has toreduce emissions by 21 percent, the southern European member states by less.

The greenhouse gas problem and international negotiations could havesevere consequences for the globalization process, although at the moment it isnot clear whether and how they will come into force. One way or the other, thetransport sector will be affected by this challenge.20 As an obvious consequenceof the CO2 problem, use of fossil energy resources has to be reduced by theindustrialized countries, implying measures to improve energy efficiency,either by implementing enforced standards or by economic instruments, e.g.,eco-taxes. Both may increase fuel prices in the transport sector, affecting theprice of transport in general and reducing the amount of goods and the numberof passengers or reducing the average transport distances.

Clearly, technological progress in energy efficiency will be fostered andnew transport solutions will enter the market. Aircraft will become moreefficient than under trend expectations; fast ships will be less attractive thanslower ones. In the automobile sector, which is still the most important energyconsumer in transport, highly efficient cars will improve their market chances.European and Japanese manufacturers may be better prepared to serve thisdemand than U.S. companies. Because the Kyoto agreement only indicates afirst step towards international climate protection activities, which will befollowed by further agreements in the next decade, energy efficiency as well asthe development of regenerative resources can be expected to stay on theagenda for a long time.

In Germany, the distribution of the reduction burden between the economicsectors is not yet clear. The position adopted by the federal government last yearwas that reduction targets can be met due to reunification (the “wall-fallprofits”). At that time, policy consisted of declarations but no legally bindingacts. Now, the prognoses have to be recalculated, and there are some indicationsthat the reduction target requires special measures. This will be discussed in thenext section.

With the global climate issue, a new element is introduced into the globaleconomic and political agenda which may affect the globalization process. Thisnew issue may change the rules of the game, or not. Optimism with respect to


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sustainable development demands that a globalization of responsibility for theEarth’s future has taken place that will reverberate at the political level. Butglobalization has been driven to this point primarily by economic processes, andpolitical leadership seems to have vanished. This may change again.

GLOBALIZATION AND SUSTAINABLE DEVELOPMENT:SOME CONCLUDING REMARKS

International companies, multinational production networks and globalmarket distribution managers from different countries all over the world havecreated the conditions for global unification, facilitating a uniform lifestyle. Inthe fullness of time all people will speak English, make purchases with creditcards, buy the same brands, and offer their labor on open markets.

Of course, this picture is a utopia, not reality. In reality, money, goods andtourists are free to travel, but not laborers. The United States is pressuring othercountries to open markets and to liberalize trade but is not keen to see millionsof poor unemployed immigrants. In reality, different ideas, education levels,religions, institutional set-ups, tastes, and political preferences still exist in theworld. But if inequity is going to last and if regional values are going to bepreserved, then globalization in the utopian perspective of progress, wealth andunderstanding is not a very convincing prospect.

Some systematic obstacles to globalization seem to exist which go back tothe fact that eradication of differences is not desired by all participants of thegame. There is also an increasing awareness that the globalization game hasboth winners and losers. There are also indications that even if the poorcountries very carefully follow the rules set by the masters of the game in thewealthy countries, they will never catch up. From this it is but a small step to theconclusion that the globalization game conserves social stratification betweenthe richer and poorer parts of the world. There are structural advantages on theside of the wealthy countries that cannot be overcome by the poorer ones.

Fast and reliable transport, comprehensive and easy telecommunicationand cheap energy together fuel international economic cooperation. The newquality of international cooperation we call globalization is more than aconsequence of technology and resources. It is driven by the removal of barriersand regulations on investments, financial flows and goods flows. The economicadvantage for those who steer the developments appears to be huge. But for allthe others an alternative to globalization is not in the offing. It is stillquestionable whether globalization is compatible with sustainable develop-ment. Though there is no consistent theory of sustainable development,encompassing environmental, social and economic aspects and including the

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North/South dimension and future generations, regionalism may be considereda common element of sustainability.

It is very popular to see a bright global future coming with the informationsociety. It was not possible in this paper to cover social issues and internationaldistributional effects. Instead it has focused on globalization and itsinfrastructures with a special emphasis on the environment and on ecologicalsustainability, namely on the greenhouse effect caused by carbon dioxideemissions. A global economy based on fossil energy is not sustainable. Nor isa global economy that accelerates global material flows. Taking intoconsideration the systemic interaction between telecommunication, transportand energy demand, the information facet of globalization may turn out to becrucial for sustainable development.

GERMAN POLICY RESPONSES TO GLOBALIZATION

In the current political debate in Germany, reflected in the programmaticpapers of parties and lobbying organizations, globalization is mainlyunderstood as a challenge to German competitiveness—local companies haveto struggle to maintain their position on international markets despite high costsfor labor. Globalization is often blamed for the loss of employment becauseproduction facilities are closed down here and reopened in countries withcheaper labor costs. Although political rhetoric defines globalization as achallenge, the tone is basically defensive. The debate has the character of a fightthat cannot be won. This is surprising in light of the excellent financialperformance of Germany’s large companies. It is more understandable in thedepressing atmosphere of persistent high unemployment.

Policy Positions of the Former CDU/CSU/FDP GovernmentThe previous government wished to support international trade, economic

growth and competitiveness of German industry, giving these topics a higherpriority than local and regional economies, as well as environmental andsustainability considerations. At the same time, sustainability is seen solely asthe responsibility of the Ministry for the Environment and has not entered thegeneral policy papers and press releases dealing with international trade,transport and energy. Moreover, the links and the conflicts betweenglobalization needs and other political objectives are barely mentioned, muchless seriously dealt with at all.


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Policy Positions of the SPDIn its main programmatic paper21 for the federal elections, the SPD

mentioned “globalization” under the heading “Strong Economy—NewEmployment.” It reads: “We want the German economy (Wirtschaft may alsobe translated as “business community”) to embrace the opportunities offered byglobalization. Our answer to the globalization of the economic sector is a policyof internal reforms and international cooperation.” A different accent comparedto the previous government position is set by the declaration: “Germany can’twin a race in cutting costs against the low-wage countries of the world.” Toremain in international competition, Germany has to be more productive andbetter, also more innovative. The number one slogan is “strengtheningeducation, training, research, and science.”

With respect to telecommunication policy, the opportunity of theinformation society to improve participation in democratic and cultural life canbe seen as another accent specific to the SPD. There are no special chapters onenergy policy or transport policy; even environmental policy is described underthe heading “Ecological modernization as an opportunity of the century forwork and the environment,” indicating that the SPD wanted to leave otherpolicy labels behind to better focus on economic, social and employmentissues.22 The key slogans under this heading are research, development andmarketing of new competitive, environmentally favorable products, newsystems for more efficient and environmentally sound transport, measures toreduce CO2 emissions in transport, sustainable energy systems, renewableenergies, and ecological urban development. Phasing out of nuclear energy “asfast as possible” and building the bridge to the solar age are other topics thatillustrate a nearly futuristic vision of policy.

Current Debate on Energy Policy and Eco-TaxesThe current German debate about higher energy taxes as part of a wider

system of eco-taxes is a direct consequence of the voters’ shift from CDU/CSU/FDP towards a coalition between SPD and the Green Party. As a central part ofthe coalition agreement, and following earlier commitments of SPD and theGreen Party to eco-taxes, this issue was projected into the mass media within thefirst weeks of the new federal government and caused political disturbances.

Traditionally, the energy sector is to a large extent in public ownership orunder political influence. While the crude oil market is fully liberalized, fuelsare heavily taxed, which establishes political prices paid by consumers. About70 percent of the prices at the gas pump reflect the tax content. The coal sectorin Germany is under direct political influence, with domestic coal productionbeing protected by customs duties on imports and subsidies for marketing coal.

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Power generation and distribution networks are to a high extent also underpublic influence. The national energy markets are now being pried open to EU-wide competition and owners of networks are being forced to allow competitorsto have their energy transported to other regions.

A special area of conflict has been established by the new coalition’s planto phase out use of nuclear energy. The Green Party aims at a quick withdrawalwhile the SPD majority talks about 20 or more years in order to avoid anyfinancial compensation to the operating companies. Chancellor Schröderespecially argues that the investments ought not to be touched and that theplants should operate until the end of their normal useful service life. Twoaspects are being discussed in parallel. Though the government wants to phaseout nuclear energy in Germany, it has to open the borders for energy fromFrench nuclear power plants. The nuclear community is also quick to point outthat the commitment for reducing CO2 emissions demands reducedconsumption of fossil energy resources. Some studies from the WuppertalInstitute argue that both the phasing-out of nuclear power plants and CO2

reduction targets can be achieved by higher energy efficiency and an increaseduse of renewable fuels. With respect to globalization, the German energy debateis interesting for several reasons:

• In both Germany and the European Union, the idea of eco-taxes is gainingacceptance. This will, in the long term, lead to higher energy prices on themarkets and will slowly initiate shifts towards more efficient technologiesand energy saving structures, as well as enforcing demand for renewableenergies.• Though the existence of low price energy markets such as the UnitedStates and Third World countries, as well as the former Eastern Bloc,complicates the situation, competitiveness in energy-intensive productsdemands exempting some industries from eco-taxes and also influences thediscussion, e.g., about diesel and gasoline for transport purposes.• Air transport benefits from low kerosene prices, because, due tointernational agreements, the fuel is not taxed; both national andinternational organizations have discussed the introduction of eithernational or international fees and taxes on kerosene. Among others GEFthought about international taxes on international air and maritimetransport as a source for financing climate protection activities. Both theEuropean Union institutions and German Parliament have declared theirintention to end the tax freedom in air transport.


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ENDNOTES

1 Deutscher Bundestag, Bericht der Enquêtekommission “Schutz des Menschen und derUmwelt,” 1998.2 Behrendt, S. u. a. (1998): Ökobilanzierung komplexer Elektronikprodukte, Institut fürZukunftsstudien und Technologiebewertung, Berlin, Heidelberg.3 Schmidt-Bleek, F. (1994): MIPS-Ein neues Maß für den Umweltverbrauch - WievielUmwelt braucht der Mensch? Wuppertal Institute / Birkhäuser Verlag.4 See Whalen, D. J.: Communication Satellites, Making the Global Village Possible,Http://www.hq.nasa.gov/office/pao/History/satcomhistory.html 16. 12. 1998.5 Culver, Denise (1999): Project Oxygen Misses Fund Date; Interactive Week Online,Jan.11, 1999, Http://www.zdnet.com/intweek/news.6 v. Weizsäcker, E.U., Lovins, A. B., Lovins, L. H. (1995): Faktor vier, doppelterWohlstand - halbierter Naturverbrauch, München.7 U.S.-EPA 1990: Policy Options for Stabilizing Global Climate.8 German Federal Ministry for the Environment (1993): Climate Protection in Germany;National Report According to Chapter 12 of the UN Climate Convention.9 Bundesministerium für Wirtschaft (1997): Energiedaten ́ 97/98.10 World Almanac and Book of Facts 1995.11 ARAL AG (1998): Verkehrstaschenbuch 1998/99.12 Schallaböck/Köhn (1997): Perspektiven des Luftverkehrs in Nordrhein-Westfalen,Wuppertal Institute.13 IEA (1997): Transport, Energy and Climate Change.14 Bundesministerium für Wirtschaft 1997. For former West Germany the specific datahave improved from about 3.7 GJ per 1.000 DM GDP in 1960 (prices of 1991) to 2.1 in1990. In the same timeframe, transport related energy consumption increased fromabout 0.65 to about 0.80 GJ per 1.000 DM GDP. This illustrates: Modernisation of theeconomy tends to improve efficiency in production but increases specific energyconsumption in transport, due to higher consumer demands both for goods andpassenger transportation.15 Shell (1995): Weltenergie - Daten und Fakten, Shell Briefing Service I/1995,Hamburg.16 According to Boeing 1997 Current Market Outlook, cited in Schallaböck/Köhn 1997.17 IEA International Energy Agency, Transport, Energy and Climate Change, Paris1997.18 PNGV Partneship for a New Generation of Vehicles, Program Plan, Dept. ofCommerce, Washington 1994.19 The description of climate policy in the beginning of this chapter is based upon workby Stefan Pfahl, Wuppertal Institute, to whom I am thankfully obliged.20 Petersen, R./v. Weizsäcker, E. (1993): Mobility in the Greenhouse; UNEP Industryand Environment Vol 16 No. 1-2.

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21 SPD-Programm für die Bundestagswahl 1998 “Arbeit, Innovation undGerechtigkeit,” Beschluß des außerordentlichen Parteitages der SPD am 17. 4. 1998 inLeipzig.22 One advertisement of the SPD contained only the words: Arbeit.Arbeit.Arbeit.


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INFRASTRUCTURES FOR GLOBALIZATIONHenry L. Michel

INTRODUCTION

Infrastructure is a term that is applied to a variety of elements in our society.Here I will address the physical, built-in-place infrastructure, which includes allelements that relate to:

Transportation- Marine: River/Canal/Sea/Ocean- Surface: Road/Rail- Air

Environment- Water- Wastewater- Solid Waste- Industrial Waste Systems

Power- Generation: Fossil/Nuclear/Hydro/Unconventional- Distribution

Telecommunications

Infrastructure plays a growing role in globalization and highly developednations such as the United States and Germany have made and continue to makemajor investments, not only within their own countries, but also in the lessdeveloped nations of the world.

HISTORY OF U.S. INFRASTRUCTURE

The North American continent was first settled by people of seafaringnations so it was not surprising that the earlier transportation modes werewaterborne. The first settlements were along the sea coasts, then along riverbasins, which were supplemented with canal systems to permit linkages acrossother parts of the country. Roads basically provided the feeder systems tomarine transport centers. As the interior opened up, road transport took on anincreasingly important role. With the invention of the steam engine, therailroads became the main transport mode for opening up vast additionalterritories and formed the principal land links for the North American continent.It was not until the middle of this century that a truly national road system was


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created. This was soon followed by a dense network of air transportationfacilities. In the absence of coordinated inter-modal planning, each modecompeted vigorously against the other and tried to increase its market share.Speed and cost became increasingly critical criteria and transport infrastructureelements that could not compete on those terms fell into disrepair. The railroadstook over from the canals; the car and the airplane provided better and cheaperpassenger transport than the ships or the railroads, etc.

The greater flexibility of road transport also had a major impact on our wayof life. Until the advent of the automobile, transport systems had centralizeddestinations. Remember the old saying, “All roads lead to Rome?” Withincreased mobility, transportation has become heavily decentralized. Since allof our transport modes were privately owned and operated, the profit motivewas the dominant force and there were no incentives to provide low pricedservices to benefit the public. Finally, the public sector, previously limitingitself to a rather benign or regulatory role, now had to take a greater interest.Special trust funds were created as repositories for earmarked taxes or user feesto finance or subsidize U.S. transportation. Thus, the present interstate highwaysystem was built with 90 percent of the original costs (construction, landacquisition, etc.) paid by a Highway Trust Fund, which also paid up to 80percent of the original costs as well as some operating costs of urbantransportation systems, including urban rail and bus systems. Since therailroads were shedding their passenger service, the government “nationalized”rail passenger service under a government owned corporation, leaving the veryefficient and profitable freight services (basically bulk freight carried on unittrains) in the hands of privately owned rail companies.

Environmental aspects of our infrastructure were originally not an issuebecause low population density and vast land areas gave the naturalenvironment ample opportunity to dilute and assimilate the pollution that wecreated. That changed dramatically when the industrial revolution resulted insiting heavy industry adjacent to waterways and when the agriculturalrevolution created heavy demands for chemical fertilizers, all of whichoverloaded the river basins with dangerous pollutants through run-off, thusendangering our drinking water supply systems. This was further exacerbatedby discharges of untreated domestic wastes into those same bodies of water.Here again, the federal government had to step in. Since the creation of theNational Environmental Protection Act (NEPA) thirty years ago, it has beencontributing up to 70 percent of the costs of creating water treatment anddistribution systems, sewage collection and disposal systems and solid wastecollection/recycle/disposal systems. Those programs continue to give rise toincreasingly more stringent standards.

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Power in the U.S. also had its origin with water. Water wheels were used tomill grains into flour and to provide power for textile mills along NewEngland’s rivers and streams. Later, free-flowing waterways were dammed tocreate electricity. Wood-burning and coal-fired furnaces brought about themodern thermal power plant, now mainly fueled by oil or gas. The nuclear ageintroduced the nuclear power reactor, which is already being phased out in someparts of the world. The power sector in the U.S. has always been a private sectoractivity with government regulation of rates and service areas. One exception isthe Tennessee Valley Authority (TVA), a government-owned entity charteredto develop flood control, irrigation, recreation, and hydro-electric power in theTennessee River basin in the southeastern United States. Subsequently theTVA also added conventional and nuclear power facilities to its inventory. It isnow operated as a private corporation with the U.S. government as its soleshareholder.

Long-distance communications started in North America with Indiansmoke signals and tom-tom drums, which may have been the fore-runners ofMorse code. Then came code signals transmitted over continuous wires, thetelephone, wireless communications, and ultimately the many wonders ofinformation technology. All U.S. components of the communicationsindustry—telephone, teletype, fax, radio, TV, satellite systems, etc.—havetraditionally been privately owned and government licensed and regulated.

A REPORT CARD ON U.S. INFRASTRUCTURE

While the U.S. has been very efficient and forward looking in creatinginfrastructure, we have not done a good job in maintaining it. In 1998, theAmerican Society of Civil Engineers (ASCE) issued a “Report Card forAmerica’s Infrastructure.” It listed ten elements of our infrastructure andevaluated them on the basis of condition and performance: capacity vs. need andfunding vs. need. The grading scale used was:

A = ExceptionalB = GoodC = MediocreD = PoorF = Inadequate

And here are the results:


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Subject Grade Subject GradeRoads D- Drinking Water DBridges C- Wastewater D+Mass Transit C Dams DAviation C- Solid Waste C-Schools F Hazardous Waste D-

The total investment needs for the next five years were estimated to be $1.3trillion, an average of $475 billion for each of the next five years. Here is thebreakdown of the evaluations (grouped into nine categories):

Roads & BridgesMore than half of our roadways are in poor, mediocre or fair condition.

More than 70 percent of peak-hour traffic occurs in congested conditions. It willcost $263 billion to eliminate the backlog of needs and maintain repair levels.Another $94 billion is needed for modest improvement—a $357 billion total.Nearly one of every three bridges is rated structurally deficient or functionallyobsolete. It will require $80 billion to eliminate the current backlog of bridgedeficiencies and maintain repair levels.

Mass TransitTwenty percent of buses, 23 percent of rail vehicles, and 38 percent of rural

and specialized vehicles are in deficient condition. Twenty-one percent of railtrack requires improvement. Forty-eight percent of rail maintenance buildings,65 percent of rail yards and 46 percent of signals and communication equipmentare in fair or poor condition. The investment needed to maintain presentconditions is $39 billion. It would take up to $72 billion to improve conditions.

AviationThere are twenty-two airports that are seriously congested. Passenger air

travel is expected to climb 3.9 percent annually to 827.1 million flights in 2008.At current capacity, this growth will lead to gridlock by 2004 or 2005. Estimatesfor capital investment needs range from $40-60 billion in the next five years tomeet design requirements and expand capacity to meet demand.

SchoolsOne-third of all schools need extensive repair or replacement. Nearly 60

percent of schools have at least one major building problem and more than halfhave inadequate environmental conditions. Forty-six percent lack the wiring tosupport computer systems. It will cost about $112 billion to repair, renovate and

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modernize our schools. Another $60 billion in new construction is needed toaccommodate the three million new students expected in the next decade.

Drinking WaterTwenty-nine percent of community water systems did not comply with the

Safe Drinking Water Act standards in 1993. The total investment need is $138.4billion. More than $76.8 billion of that is needed immediately to protect publichealth.

WastewaterOnly 60 percent of our rivers and lakes are safe for fishing or swimming.

There are an estimated 300,000 to 400,000 contaminated groundwater sites.The United States needs to invest roughly $140 billion over the next twentyyears in its wastewater treatment systems. An additional 2,000 plants will beneeded by 2016.

DamsThere are 2,100 regulated dams that are considered unsafe. There were

more than 200 documented dam failures across the nation in the past few years.It would cost about $1 billion to rehabilitate documented unsafe dams.

Solid WasteNon-hazardous municipal solid waste will increase from 208 to 218 million

tons by the year 2000, even though per capita waste generation will decreasefrom 1,606 to 1,570 pounds per year. Total expenditures for managing non-hazardous municipal solid waste in 1991 were $18 billion and are expected toreach $75 billion by the year 2000.

Hazardous WasteMore than 530 million tons of municipal and industrial hazardous waste is

generated in the U.S. each year. Since 1980, only 423 (32 percent) of the 1,200Superfund sites on the National Priorities List have been cleaned up. The list isexpected to grow to 2,000 in the next several years. The price tag for Superfundand related cleanup programs is an estimated $750 billion and is likely to rise to$1 trillion over the next thirty years.

In the fields of power and telecommunications, the regulatory environmenthas always allowed and even guaranteed a profitable return by tying it to apercentage return on fixed assets such as new power plants, new distributionnetworks, new switching systems, satellites, etc. With deregulation of the


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power sector and the break-up of the AT&T long lines monopoly, we are nowin the early phases of unfettered competition and introduction of new and oftenimproved technologies.

THE TRANSPORTATION EQUITY ACT FOR THE 21ST CENTURY

SummaryOn June 9, 1998, President Clinton signed into law the Transportation

Equity Act for the 21st Century (TEA-21) authorizing highway, highway safety,transit, and other surface transportation programs for the next six years.

TEA-21 builds on the initiatives established in the Intermodal SurfaceTransportation Efficiency Act of 1991 (ISTEA), which was the last majorauthorizing legislation for surface transportation. The new act combines thecontinuation and improvement of current programs with new initiatives to meetthe challenges of improving safety as traffic continues to increase at recordlevels, protecting and enhancing communities and the natural environment aswe provide transportation, and advancing America’s economic growth andcompetitiveness domestically and internationally through efficient and flexibletransportation. Significant features of TEA-21 include:

• Assurance of a guaranteed level of federal funds for surface transportationthrough the fiscal year 2003 (ending September 30, 2003). The annual floorfor highway funding is keyed to the actual receipts of the highway usertaxes, funneled into the Highway Trust Fund. Transit funding is alsoguaranteed up to selected fixed amounts. All extant highway user taxeswere extended at the existing rates when the legislation was enacted.• Extension of the Disadvantaged Business Enterprises (DBE) program,providing a flexible national 10 percent goal for the participation ofbusiness enterprises, such as small firms, owned and controlled by womenand/or minorities in highway and transit contracting undertaken withfederal funding.• Strengthening of safety programs across the U.S. Department ofTransportation. New incentive programs, with great potential for savingsto life and property, are aimed at increasing the use of safety belts andpromoting the enactment and enforcement of 0.08 percent blood alcoholconcentration standards for drunk driving and other safety related issues.• Continuation of the proven and effective program structure established forhighways and transit under the 1991 landmark ISTEA legislation.Flexibility in the use of funds, emphasis on measures to improve theenvironment and the focus on a strong planning process as the foundation

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of good transportation decisions are continued and enhanced by TEA-21.New programs such as border infrastructure to strengthen the NorthAmerican Free Trade Agreement (NAFTA), Transportation InfrastructureFinance and Innovation, and Access to Jobs target special areas of nationalinterest and concern.• Investing in research and its application to maximize the performance ofthe transportation system. Special emphasis is placed on deployment ofintelligent systems to help improve operations and management oftransportation systems and vehicle safety.

CommentTEA-21 is generally limited to highway, railway and transit investments,

with lip service to ferry boats in Alaska and Hawaii and no reference to airportimprovements. Yet, TEA-21 is a major breakthrough since it creates a morebalanced approach for investing not only in highways and bridges but also intransit systems, intermodal projects and in advanced technologies such asintelligent transportation systems. In 1999, we hope to have a similar act foraviation and also the renewal of our once successful environmental legislation.Another important feature is that it provides a guaranteed funding level of $198billion over the five-year life of the act, which could top $218 billion if gasolineand other highway user tax receipts exceed earlier estimates. The act is the onlymajor transportation investment vehicle in any western country. Only Japan andChina have programs that approach the spending levels of TEA-21. However,according to the ASCE Report Card, we require $357 billion for roads andbridges alone, so TEA-21 will not even help us stay abreast and that does notaccount for major north-south road and rail realignments to deal with changingtraffic patterns created by the North American Free Trade Agreement(NAFTA). In the 1960s the United States invested 3 percent of its GDP intransportation infrastructure, in the 1980s it spent only 1 percent.

GLOBAL COMPETITIVENESS

Professor Alan Aschauer (Elmer W. Campbell Professor of Economics atBates College in Lewiston, Maine) has demonstrated that there is a directcorrelation between growth in transportation infrastructure investment andgrowth in gross domestic product. So in order to become or remain competitivein the global market, the United States has to maintain and even upgrade itsinfrastructure—its total infrastructure. What must it do to remain locally andglobally competitive? Tax-based financing will never completely meettomorrow’s needs. Innovative financing, public/private partnerships and


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developer investment techniques are driving the growth in Asia and SouthAmerica. Innovation financing and a new breed of financiers will be theoutgrowth of the exploding needs for infrastructure investments. Traditionallywe used to build it and they would come. Industrial and commercial investorsused to follow the infrastructure. In the developing world they often have toprovide the basic infrastructure: site access, power, etc. Gordon Wu’s HopewellHoldings Ltd. was interested in developing building projects in the People’sRepublic of China and ended up developing toll highways and power projectsto fill a basic need. Local policies will have to be put into place to encourage andfoster such investments, particularly in the developing countries.

The United States also has to make research and development (R&D) a toppriority. In Europe it is one of the top four priorities. In the U.S. it is not in thetop ten. In TEA-21, there is only $2.2 billion set aside for R&D out of a total of$218 billion (just about 1 percent). Tax incentives and risk managementtechniques will have to be put into place in order to provide the researchcommunity the environment to produce original research as well as adaptiveresearch borrowing from other industries. The construction industry isparticularly backwards in the R&D field, but fortunately it has borrowedeffectively from space, defense, petrochemical, electronics, synthetics,composites, and other industries.

The U.S. must also improve the process to move R&D into application.Japan requires two years, but the U.S. needs six to ten years to bringconstruction related research into actual use. Improved communications andinteractions between R&D communities (both industrial and academic) andregulatory bodies (building standards and codes), as well as improvedprotection of intellectual properties are helping to reduce the time delays. In theU.S. highway sector, private enterprise and academia, working with theassociation of all state highway departments (AASHTO) have facilitatedintroduction of innovation and shortened the delay to less than two years.Similar approaches are now being developed for accelerating innovationintroduction to the buildings, civil engineering and environmental fields, but itwill require much closer government (regulatory)/industry cooperation.

The introduction of R&D and innovative contracting practices is alsoretarded by resistance to risk-sharing by the participating parties ininfrastructure developments and the excessive costs of litigation, oftenacerbated by introduction of pseudo-scientific expertise. An approach toreduction of litigation would be through mandatory alternative disputeresolution. In the United States, $60 billion is spent on lawsuits each year.That’s more than $2,200 for every man, woman and child. About $5 billion ofthat relates to design and construction activities. And each $1 billion saved can

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put 40,000 construction people back to work—or a total annual gain of 200,000well-paid jobs in construction. Writing reasonable contracts for $5 billion ofadditional construction would be a better utilization of those lawyers.

The United States must also leap-frog technologies into the 21st centuryrather than try to refine and up-grade obsolescence. Information technologiesare leading the way, including the intelligent highway and the Internet.Historical examples of “leap-frogging” exist, particularly the rebuilding of thedevastated economies of Europe and Japan after World War II. Facilities werecreated using state-of-the-art technologies in former war-torn countries,providing a considerable competitive advantage over many industries invictorious nations that did not have to rebuild their plants or infrastructure.Today, countries with underdeveloped or undeveloped communication systemsdon’t have to wait to be “wired up” and don’t have to try to protect theirinvestments in expensive and out-dated networks.

The U.S. must take advantage of greater inter-industry technologicalexchange, especially in the space industry, in satellite transmissions, incomputer designs, and in non-conventional materials. Ways will have to befound to improve the exchange of ideas and knowledge developed by otherindustries. The components of industry that are directly involved in the creationof infrastructure are often quite unaware of usable developments in otherindustries and conversely, such other industries fail to see the market potentialof some of their research because they have no clear understanding of the needsof those markets.

Multi-modal, multi-industrial solutions are the answer, includingelectronic classrooms, video/Internet shopping, electronic tickets, andautomated vehicles. Multi-industrial solutions will avoid solving tomorrow’sproblems using yesterday’s solutions. Growth projections need to take intoaccount the way we will conduct ourselves in the future, not simply a projectionof statistics based on population growth forecasts. The number of highwaylanes, rail mileage, airport runways, kWh consumption, classrooms, shoppingcenters, and office blocks will not rise at a particular rate, but will be directedby where and how we live, learn and work. Economic forecasters will have torelearn their skills.

The advent of the 24-hour design office transmitting end-of-their-day datavia satellites brings the promise of lower cost labor and overcoming labor-shortages. Multiple work centers—often in multiple overseas locations—willenable “round-the-clock” operations, alleviate labor shortages in “graying”communities, such as Germany and the United States, tap lower-cost markets,and bring the product closer to the consumer. Controls will be readily exercisedfrom yet other remote locations including “at home” workstations that will


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enable managers to plan their time commitments to allow for the conduct ofother/social responsibilities.

Major industrial mergers such as railroad mergers and airline alliances willcreate larger capital bases for infrastructure investments, including deeper portsrequired for super container carriers. Increasingly high investments ininfrastructure, plant and equipment as well as greater service responsivenesswill lead to the creation of larger business units with the financial and economicpower needed to grow and to survive decreased public sector support. Poolingof physical as well as financial resources to sustain the lengthy process ofobtaining proper returns on investments will require a review of anti-monopolistic laws and regulations to allow orderly growth, while protecting thepublic interest.

Tax reform is needed to encourage R&D expenditures and greater use ofrisk capital for new technologies such as solar and wind power and driverlessvehicles. All new developments, and particularly the time and size ofinvestments in such new technologies, are subject to competitive forces andgeopolitical influences in the global infrastructure arena. Non-conventionalpower systems suddenly became financially attractive when the price of oil roseto $40 per barrel. OPEC was hoping for $100 barrels by the year 2000! Thepresent price of less than $15 has temporarily wiped out all competing non-conventional power system investments. Long-term solutions such as taxreforms, changes in amortization schedules, subsidies, and clean and renewablefuel technologies will have to be promoted.

Accounting practices must be reformed to consolidate life cycle budgeting,including the elimination of separate budgets for capital spending andmaintenance/operating costs. The whole wished-for approach to sustainabledevelopment and life cycle planning founders on the approach to budgeting andaccounting. Every governmental entity and every private sector unit is verycareful in separating its expense budgets into two distinct categories—one forcapital expenditures and another for maintenance and operating costs. The twoare never combined, related or consolidated. The fact that sustainabledevelopment and proper life cycle planning often would result in greater initialcosts, but frequently offset by dramatically lower maintenance and operatingcosts, is never revealed. Accounting changes to require the same care for themanagement of capital assets as for financial assets may be the answer.

THE FUTURE OF INFRASTRUCTURE

There will be big changes in the way we live and the way we work andwhere we live and where we work. Statistics will not help get answers to those

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questions. Another issue with which we have to come to grips is that for far toolong we have looked at the infrastructure in almost total isolation. There aremany other industries involved and we need to redefine our approaches. Forexample, the space industry transports vehicles through airless space; theelectrical industry transports energy across great distances; the data processingand telecommunications industries transport information at nearly the speed oflight; and the hydrocarbon industry transports huge quantities of liquids andgasses across oceans and land masses through transnational pipelines.

Stepping out of the box—in other words, discarding our systematicapproaches—what do we see or what would we like to see?

• Automated vehicles, traveling in platoons or individually with no need forroad signage, resulting in an increase in safety, a reduction of accidentbottlenecks and improvement of the environment.• Multiple use of urban infrastructure, such as solid waste and other freightmovements through rail transit systems during off hours.• Redesign of containers (cars, buses, transit vehicles, ferries) to allow formultiple use, such as the present use of airplanes for passengers and freightsimultaneously.• Use of Geographic Positioning Systems (GPS) for instant location andguidance of all vehicles and containers.• Scenarios for major increases in the productive time usage of containers.For example, automobiles, usually with a single driver, are idle more thantwenty hours a day, more than 85 percent of available time. Freight vehiclesare moving without freight much of the time, returning empty afterdelivery. Four passenger units can be made convertible to freight—collapsing seats and loading with merchandise at destination, eliminatingunder-utilized space. Modularity will allow peak-off-peak capacityadjustments.• Multi-modal incidence response. Identification of on-coming weatherdelays and use of variable message signage to divert travelers fromroadways to rapid transit or rail transport. Advance plan rail equipmentavailability and emergency vehicle positioning.• Instant carpooling of automated vehicles with single multi-modalreservation and fare collection systems with planned inter-modal transfers.• Universal computer-controlled driverless vehicles (cars, buses, trains,boats, etc.).• Miniaturized power plants for individual powerpack movements throughurban airspace, including persons or packages for roof-top deliveries.


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SUMMARY

TransportationMarine: River/Canal/Sea/Ocean

Marine transport serves two very distinct markets: tourism and bulktransport. The principal issues are environmental (harbor and channel dredgingmaterial disposal, oil spills and waste disposal), structural (improved berthingand greater harbor depths) and inter-modal (good land-side transport access).U.S. policy is to subsidize navigation features (locks and channels) withmunicipal authorities or private shippers providing the terminal facilitiesfinanced with user fees. Ever-increasing sizes of ocean transport and cruiseships will require major new investments, which will result in consolidation ofexisting numbers of terminals.

Surface: RoadThe impact of congestion on the national economy is a major problem in

every developed society. In the U.S., traffic congestion is estimated to costabout $370 billion a year. In the last twenty years the use of high occupancymodes of transportation has been a major topic among planners. As a result, theU.S. Congress passed the Intermodal Surface Transportation Efficiency Act(ISTEA) in 1991. This law gave the states legislative support to manage existingtransportation systems more efficiently and intermodally. This support iscontinuing under the Transportation Equity Act for the 21st Century (TEA-21)signed into law in June 1998, which prescribes a process called “congestionmanagement,” referring to a general transportation planning strategy. Theprincipal goals of congestion management are to influence travel patterns and toeffectively use existing roadway capacity, as opposed to merely constructingmore roadways. The basic aim is to reduce the number of vehicles on the roadand to shift the riding public to higher occupancy modes of travel, such as publictransportation. All of this comes from the fundamental law of trafficengineering: “Adding more lanes to a congested corridor will only add morevehicles and therefore increase congestion.”

Surface: RailIn the United States, the trend is toward reductions in subsidies for support

of passenger service and an absence of investment capital to build and maintainhigh-speed technologies. This strategy will result in limiting passenger railimprovements for suburban commuter and intercity passenger rail service.Freight rail is going through major consolidations and realignments to reflect

Henry L. Michel

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NAFTA needs, but will continue as a highly profitable mode with limitedgovernment regulatory controls.

AirU.S. air service is highly competitive and expansion of airport facilities will

largely be privately financed, repaid by user fees (concessionaires, catering,fuel charges, parking, etc.) and a federally imposed passenger charge (presentlyset at $3.00 per trip), collected and utilized by airport authorities. The majorinvestment gap relates to inter-modality with only a handful of U.S. airportshaving convenient, user-friendly ground transportation links.

EnvironmentThere is a very strong movement towards private ownership of

environmental systems. Water purification and supply systems are beingpurchased by private companies, often European. Solid waste collection,recycling and disposal systems are also seeing a major trend toward municipalcontracts with privately owned service companies providing services.

PowerThe U.S. power sector has always consisted of a majority of private

companies based on dispersed shareholding, regulated by the federalgovernment. Subsidized power, generally from taxpayer financed hydroelectricfacilities, is beginning to change its structure to be financially self-sustaining.Both the power-generating, as well as the power-distribution sectors are goingthrough a phase of deregulation expected to increase the competitive pressureson previously franchised companies which had enjoyed local or regionalmonopolistic positions. Deregulation is also hastening the entrance of newindependent power producers who will tailor their plants to a limited localmarket.

TelecommunicationsTelecommunications is the most rapidly growing infrastructure sector

since government deregulation has eliminated local, national and internationalmonopolies. The impact of those changes brought about by revolutionaryadvances in information technology (IT) has not yet been fully felt. It is clear,however, that IT will have a huge impact on where we live, where we work andhow we learn. It will overtake many of the more conventional infrastructureelements and will force us to rethink our future planning. The federalgovernment is now trying to stretch its planning horizon to thirty years in orderto be better prepared to deal with rapid changes.


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In conclusion, the U.S. needs to widen its focus. It must come to grips withthe fact that we now live in a truly global world, where according to DanielYergin, the author of The Commanding Heights,

Capital sweeps across countries at electronic speed; manufacturing andthe generation of services move flexibly among countries and arenetworked across borders; markets are supplied from a continuallyshifting set of sources. Ideas, insights, techniques all disperse amongcountries with increasing ease. Access to technology across nationalboundaries continues to grow. Borders are eroded as markets areintegrated.

In order to move into the new century, we not only need to cross geographicand geopolitical boundaries, but also cross the artificial boundaries thatseparate industries. We need to form multi-national and multi-industrytaskforces to tackle the challenges and to find borderless solutions to make thisa better world.

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AICGS Research Reports

Phillips, Ann. Seeds of Change in the German Democratic Republic:The SED-SPD Dialogue. Washington, D.C.: AICGS, December 1989.

Allen Christopher S. Democratic Politics and Private Investment: Fi-nancial Regulation in West Germany and the U.S. Washington, D.C.:AICGS, November 1990.

Mushaben, Joyce M. Identity without a Hinterland? Continuity andChange in National Consciousness in the German Democratic Repub-lic, 1949-1989. Washington, D.C.: AICGS, July 1993.

Holzmann, Robert. On the Economic Benefits and Fiscal Requirementsof Moving from Unfunded to Funded Pensions. Washington, D.C.:AICGS, August 1997.

Heilemann, Ullrich and Hermann Rappen. The Seven Year Itch? Ger-man Unity from a Fiscal Viewpoint. Washington, D.C.: AICGS, January1998.

Wagner, Helmut. Perspectives on European Monetary Union. Washing-ton, D.C.: AICGS, January 1998.

Lankowski, Carl, ed. Break Out, Break Down or Break In? Germanyand the European Union After Amsterdam. Washington, D.C.: AICGS,April 1998.

Lankowski, Carl, and Simon Serfaty, eds. Europeanizing Security? NATOand an Integrating Europe. Washington, D.C.: AICGS, April 1999.


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