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Economic Consequences of German Reunification

Economic Consequences of German Reunification. Overview. German History after 1945 Policy Strategy for Reunification Impacts of Reunification on Germany Impacts of Reunification on Europe The Situation Today. The Potsdam Conference 1945.

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Economic Consequences of German Reunification

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  1. Economic Consequences of German Reunification

  2. Overview • German History after 1945 • Policy Strategy for Reunification • Impacts of Reunification on Germany • Impacts of Reunification on Europe • The Situation Today

  3. The Potsdam Conference 1945 • President Truman, Premier Stalin, and P.M. Attlee meet. • The intent was to ultimately govern Germany together. • The agreements fell apart soon after they were made. • France did not feel bound because it did not participate • Cold war tensions and vague wording resulted in different interpretations

  4. Four Occupational Zones • Germany was subdivided into 4 zones • Berlin was also divided into 4 similar zones • The Soviet zone became the German Democratic Republic (East Germany) • French, British, and American zones united to form the Federal Republic of Germany (West Germany)

  5. East Germany Check Point Charlie • Established an authoritarian government with a centralized command economy. • Became the wealthiest and most advanced country in the Eastern bloc but still well below western standards. • Political freedoms were denied • Mass defections to the West prompted the development of the GDR border system. Courtesy of Stephen Windsor From: Dornbusch R., H. wolf, and L. Alexander 1992

  6. West Germany’s “Wirtschaftswunder” • West Germany developed a capitalist “social market economy” and a democratic parliamentary government. • Prolonged economic growth fuelled the “economic miracle” of the FRG. • The economy was primarily built upon industrial activities.

  7. Reunification • In 1989 Hungary removed border restrictions with Austria • More than 13,000 East Germans escaped to the West through Hungary • Gorbachev pressurized the GDR to accept change. • In October 1989, the entire East German cabinet resigned and travel restrictions were removed. • Citizens began manually knocking down the wall.

  8. November 9th, 1989

  9. The Economic Plan for Unification • West German industrial efficiency was expected to quickly overcome the economic challenges. • East German currency would be exchanged for West German currency at a rate of 1:1 • East German wages would be raised to Western standards immediately. • Private Debts would not be eliminated. • Property rights were not clearly defined.

  10. East German Firms Could not Compete • Artificially high wages in the East resulted in high unemployment. • GDP dropped while a thirst for imported goods increased. • Exports remained at low levels. From: Dornbusch R., H. wolf, and L. Alexander 1992

  11. The West German Burden • By 1996, the amount of money absorbed by East Germany was 50% larger than the GDP • 160 billion DM was from public investment • 75 billion DM was from private investment From: Sinn, H.W.. 1996

  12. The West German Public Debt • East German workers began competing for West German jobs • The unification expenses were funded through borrowing rather than tax increases. • Historically low German debt skyrocketed. From: Dornbusch R., H. wolf, and L. Alexander 1992

  13. The EMS • The European Monetary System (EMS) was designed to keep European currency exchange rates within a narrow band. • Germany was the key currency because it had the highest GDP. All other currencies tried to match German monetary policy. • This was accomplished by interest rate fluctuations and the buying and selling of foreign exchange reserves.

  14. EMS Crisis • Neighboring European countries raised their interest rates in an effort to protect their currencies from devaluation. • Interest levels peaked on “Black Wednesday” in September of 1992. • In order to keep pace with the rising value of the DM, other nations raised interest rates and experienced currency devaluations. • The British pound and Italian lira were temporarily suspended at the peak of the crisis.

  15. The EMS Crisis From: Sinn, H.W.. 1996

  16. Investment Today • Despite trillions of Euros being poured into the former East Germany, the GDP has not increased. From: The Spiegel Online, 2005

  17. References Berg, S., S. Winter, and A. Wassermann. 2005.The Price of a Failed Reunification. Spiegel Online International. Sept. 2005. Sinn, H.W.. 1996. International Implications for German Reunification. Brookings Papers on Economic Activity. 1/1996 pp.1 – 28. Dornbusch, R., H. Wolf, and L. Alexander. 1992. Economic Transition in Eastern Germany. Brookings Papers on Economic Activity. 1/1992 pp.235 – 272. Miles D., and A. Scott. 2005. Macroeconomics and the Global Business Environment. John Wiley & Sons. N.J.

  18. The Situation Today From: The Spiegel Online, 2005

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