Hope of Franco-German economic reform is fading. But business is taking an escape route through advanced technology.

The bad news is that despite the harsh experience of the last decade or more that should have brought home the damage done by socialist tinkering, there is still no electoral majority for a more liberal economy in “core” Europe. Crucial elections in Germany last September were supposed to sweep away the social-democratic government and install in its place the alliance of conservatives and liberals whose programme openly aimed at cutting the overblown welfare state down to size and at tackling unemployment by doing away with the more absurd features of the prevailing “job protection” laws. Instead of winning the comfortable majority predicted by the polls, the center-right alliance failed to gain control of the legislature. The social democrats, the “greens” and the hard left, though by no means united, could and assuredly would defeat any radical reform proposal. Mathematically, the only issue was a coalition government of the centre-right with the centre-left, capable only of uneasy compromises, half-measures and bound to preserve the essentials of the “social protection” that the electorate insisted on maintaining.

All this had a profound knock-on effect in France. The French left is leaderless, has no programme and is in disarray. The right has the majority by a wide margin. However, the right is internally divided into a mainstream and a radical reformist part. The mainstream wants to continue the post-war tradition of an anti-“Anglo-Saxon” ideology and of “social” appeasement at almost any cost. It is led by a second-term President who, contrary to his high-profile postures in foreign policy, in domestic policy never faced down a strike and never failed to give way to noisy street demonstrations. Interest groups have duly learnt the lesson and have become more intransigent and menacing than their intrinsic strength would normally permit. Despite the overt and covert government subsidies meant both to strengthen and to buy them off, French labour unions are intrinsically feeble with a total membership of less than 8 per cent of the labour force, but behave as if they held all real power in the land.

Until recently, the reformist wing of the French right looked highly likely to defeat the mainstream at the next presidential and parliamentary elections in April 2007. The result of the German elections caused all calculations to be remade and all positions to be shifted leftwards. “A liberal economic programme is the surest way to lose the election” has become the received wisdom.

If this wisdom is in fact true, it has a drastically simple explanation. The “average” voter, frightened by the chronic 10-11 per cent unemployment rate, is desperately clinging to the system of “social protection” that prevails in Germany and France. He stubbornly refuses to see that it is the very system of “social protection” that is the main cause of unemployment.

Shut down one corrective mechanism, another will kick in

The good news lurking behind these bad ones is that it is never possible altogether to outlaw and smother the adjustment process by which an economy pushed off balance by shocks and extra-economic constraints, seeks to right itself. If cowardly politics shuts down one corrective mechanism, another will start up. The result will not always be as smooth or efficient as if the first, most obvious mechanism had been allowed to work, but adjustment will still take place, albeit in roundabout and costlier ways. The Soviet Union had banned profit-and-loss and froze the price system. In their place, much of the work of resource allocation shifted to queues, black and grey markets and the sort of corruption that spreads when direct ownership interest is suppressed or overlaid by principal-agent relations.

With all adjustment mechanisms intact, unemployment depresses wages which in turn stimulates re-hiring. As capital’s appetite for hiring labour increases, investment using standard technology to create workplaces expands. Expansion continues till the demand for labour lifts wages sufficiently to arrest the process. Throughout, there is a sort of pendulum movement between the share of profits and the share of wages in national income. More appetite on the part of capital to hire labour boosts the share of wages and reduces the share of capital—as used to be the case in the 1960s and 70s when employment was still near to full.

What happens instead in the Franco-German welfare state “model” of today? Companies do not hire, because under “job protection” laws they may not be able to fire should it become advisable to shed labour. It is extremely difficult to reduce wages or tighten working conditions; indeed, there is pressure from the government and the media to do the opposite. Everybody would like to cut costs by shedding labour when this is feasible. German companies now manage to do it, but the cost is fearful; Daimler Benz is providing 960 million euros to fund the cost of letting go 8,500 workers from its plants in Baden-Wurtemberg. In France, even high severance payments may not permit payrolls to be cut. Hewlett Packard intended to reduce its work force in Grenoble by 1,250 persons, mostly by natural wastage over 2 years. Because the company was profitable in its worldwide operations, there was outrage at this manifestation of ruthless and shameless greed. President Chirac called upon the European Union to intervene, there was a barrage of accusations against the management and Hewlett Packard eventually back-pedalled some of the way. The example can only encourage other companies to shed labour when they can get away with it at an affordable cost, and in any case not to create new jobs.

However, there are exceptions and they also tell a tale. Toyota did create several thousand new jobs in Northeast France. Its president is reported to have said that he chose this location in preference to England because English workers do not fear for their jobs and will “talk back”, while French ones are so intimidated by the surrounding unemployment that they are easier to handle. Unions are highly aggressive in the public sector but hardly ever strike in private industry.

Despite such exceptions, the overall tendency is to refrain from hiring and fire (or “de-locate” to Eastern Europe, India or China) when one can get away with it. Manufacturing employment is now 22.5 per cent of the total in Germany and 15 per cent in France; still way above the American and British figure of 10 per cent, but falling. Investment has a strong labour-saving bias as companies are reaching out for new technologies. Instead of “widening” it, the stock of equipment is being “deepened”. As the 19th century Austrian economist Böhm-Bawerk would have put it, the “period of production” is lengthening (without necessarily taking more time).

You can read more about capital widening and capital deepening in Chapters 4 and 5 of Economics as a Coordination Problem, by Gerald P. O’Driscoll.

The irony is that to relieve unemployment, it is precisely “widening” and not “deepening” that would be needed. It is “widening” that the normal corrective mechanism of falling wages and the ensuing demand for labour would have produced.

What the roundabout adjustment mechanism permitted by the counter-productive policies of the Franco-German “social model” is bringing about is bad for employment and bad for wages in the short term. In the long term however, it may prove to have been a great leap forward. Sooner and faster than would have been normal, it forced the “core” European economies to adopt technologies appropriate for tomorrow’s economies that are short of labour—an unexpected achievement for countries suffering from double-digit unemployment. It greatly accelerated their exit from traditional manufacturing industries and their transformation into service economies along much-maligned Anglo-American lines—another unexpected by-product of the European “social model”. Whether lagging growth, unemployment and rising national indebtedness are prices worth paying for this result is of course an open question, but at least these prices are not being paid only to keep up the futile illusion of “social protection”.


*Anthony de Jasay is an Anglo-Hungarian economist living in France. He is the author, a.o., of The State (Oxford, 1985), Social Contract, Free Ride (Oxford 1989) and Against Politics (London,1997). His latest book, Justice and Its Surroundings, was published by Liberty Fund in the summer of 2002.

The State is also available online on this website.

For more articles by Anthony de Jasay, see the Archive.