Increasing competitiveness at any price? A dispute with Dustmann et al. (2014): "From sick man of Europe to economic superstar: Germany's resurgent economy"

Dustmann/ Fitzenberger/ Schönberg/ Spitz-Oener (2014) praise the flexibility of German labour market institutions for the German turn-around from "Sick Man of Europe to Economic Superstar": The more decentralized, firm-specific wage-setting process since the mid-1990s increased wage inequality and reduced pay increases. According to the authors' novel calculations for unit labour costs of the "end product" the German export-oriented manufacturing sector experienced a very high decrease in unit labour costs between the mid-1990s and 2007. The authors claim that this increase in price competitiveness is behind exporting success and (implicitly) the turn-around in economic growth. While we value the authors' efforts to incorporate inputs from other sectors into the calculation of unit labour costs of the manufacturing sector through an input-output approach, we show that the calculation is unconvincing in several regards and overstates the costs reduction. Besides this, we also show that the link from unit labour costs to exports is weaker than implicitly assumed by the authors. We also criticize the implicit assumption that export success based on low wage growth furthers GDP growth, as the positive effect of low wages on exports has to be balanced against the negative effect on domestic demand. Overall, our findings suggest, the policy conclusions from the authors - real wage cuts were necessary to improve German competitiveness for turning around the economy - overstate the role of unit labour costs for GDP growth.