Human Factor Is Key to Reunification Equation
Financial markets--and many Americans--are concerned and confused about Eastern Europe.
People know that something big is going on over there but don’t understand just what it is or how it affects them. And now suddenly the experts have turned sour on the East. Where last year they emphasized the possibilities in Eastern Europe’s turn toward free markets, now they stress the difficulties: How far behind and unproductive the Communist economies are, how poor the people are and how much of the West’s scarce capital they’ll need to get on their feet.
“Eastern Europe can emerge as a source of supply in the world economy,” says economist David Hale of Kemper Financial Resources, “but it will first have to receive a large infusion of new capital.”
The markets reflect the anxiety. On Tuesday, even though Federal Reserve Board Chairman Alan Greenspan said the U.S. economy was no longer in danger of recession, stocks and bonds fell on fears of worldwide interest rate hikes--in Japan as well as Europe.
The focus of concern is Germany, where West and East are reunifying because essentially they have no choice. East Germany has collapsed, its people are despondent, not knowing what their savings are worth--if anything. If the two halves of Germany were not reunited, the East Germans would simply cross to the West, as they have been doing at the rate of 2,500 a day, leaving hospitals without staff and public services breaking down.
So one Germany is a certainty. But financial markets fear that the 17 million people of East Germany will upset the economy of the 61 million people of the West--either draining it in social welfare payments or bringing it rising inflation with their pent-up demands for consumer goods. The uncertainty is causing interest rates to rise in West Germany and, this being an interconnected world, to rise in the United States too.
What will happen? Things will probably work out a lot better than the markets expect--as they did before in 1948 when West Germany laid the foundation of its postwar recovery. The prime factor in that recovery--and in today’s East German situation--doesn’t lie in financial equations, though, but in people and history. “The psychology of the people is critical,” says Axel Lebahn, longtime specialist on Eastern Europe and the Soviet Union for the Deutsche Bank. “If the currency is done successfully and we have stable money, we will get a mushrooming of enterprises, an advance in human capital.”
The trick in currency reform is to put the weak East German ostmark together with the strong West German deutschemark (DM) at a rate reflecting the real purchasing power of each. If the currencies were put together at the East German official rate of one to one--while the black market rate is five ostmarks to one DM--there would be wild inflation in West Germany as the East Germans used their new-found, and unearned, purchasing power.
But a dumb deal on currency is most unlikely. Rather, East Germans will probably get one DM for five of their marks--but be satisfied with the exchange because the new currency will have purchasing power.
That’s how it was done in 1948 when Britain, France and the United States ruled the Western zones of Germany and appointed Ludwig Erhard, an economics professor from Munich, to be economic administrator.
Postwar Germany was economically devastated, with worthless currency and millions of refugees from the Soviet zone. To get things moving, the U.S. authorities devised the deutschemark in 1948 and gave it out in an exchange of 6.5 new marks for 100 old ones. All debts, however, had to be paid off at a higher rate of old marks to new, so creditors were reassured that the money was sound.
Erhard then did the rest with his “socially conscious free market economy,” in which he abolished 90% of the postwar price controls, unfroze wages and revived collective bargaining. Erhard, who reckoned that free markets would unleash productive energies more than government planning, actually overstepped his authority in abolishing price controls. But the American occupation authorities backed him up.
The Soviets reacted to this new West German economy by blockading Berlin and holding the city of 2 million hostage in the severe winter of 1948-49. The blockade was broken by the Berlin airlift, which supplied the city with coal, food and other necessities for seven months. After that, West Germany took off but East Germany and the Soviet Union did not, and the ultimate outcome is being played out today in Eastern Europe.
What really made the difference? John Kenneth Galbraith gave the answer years ago in “The Nature of Mass Poverty.” The arrival in the allied zone of Germany of “millions of men and women determined to recover their previous way of life was a factor of unique power in German rehabilitation,” wrote Galbraith.
“What men of orthodox mind attributed to currency reform, the Marshall Plan, the economic wisdom of Ludwig Erhard,” wrote Galbraith, “must obviously be shared with this extraordinary human endowment, which so many at the time saw only as a burden.”
Well, orthodox financial minds see burdens today; maybe they should be looking for the human endowment.
