Eastern Germany’s New Growth Engine

Eastern Germany has suffered from three decades of deindustrialization since the collapse of communism, largely because of poor policy decisions. But by becoming an electric-vehicle powerhouse, the region can help to drive Europe's green transition and secure its own future prosperity.

By: Date: October 7, 2020 Topic: European Macroeconomics & Governance

This opinion piece was originally published in Project Syndicate.

MUNICH – This week, Germany celebrates the 30th anniversary of its reunification. After years of frustration and gloom, the long-depressed east of the country – the former German Democratic Republic (DDR) – is finally experiencing fresh hope owing, to large new investments in electric-vehicle (EV) manufacturing.

Eastern Germany is fast becoming the European center of future electric mobility. Volkswagen is producing its ID.3 electric car in Zwickau and Dresden. BMW already manufactures its i3 electric car in Leipzig, while the Chinese firm CATL will produce EV battery cells for BMW at a factory near Erfurt in Thuringia. Another Chinese company, Farasis Energy, will make EV battery cells for Mercedes-Benz in the state of Saxony-Anhalt. In addition, Tesla last year announced plans to manufacture electric cars and batteries at a new “gigafactory” in Brandenburg, close to Berlin.

Why are all these firms coming to eastern Germany – and why now? The region’s high wages, especially relative to those in Eastern Europe, had long made it an unattractive investment location. But two recent policy announcements have changed the dynamic.

First, in February 2019, German Economy Minister Peter Altmaier unveiled his “National Industrial Strategy 2030,” which, among other things, calls for establishing battery-cell production in Germany and elsewhere in Europe. His announcement followed the European Commission’s 2017 launch of the European Battery Alliance, which aims to create a competitive European battery sector. Later in 2019, the Commission introduced Battery 2030+, a long-term initiative bringing together research institutions, industry, and public funding institutions.

These commitments from the European Union and the German government triggered a state-led process of agglomeration. EV producers now have an incentive to move to Germany and other European countries in order to be near other EV manufacturers and production sites for key battery inputs.

Second, the European Green Deal introduced by European Commission President Ursula von der Leyen aims to support regions in phasing out coal, including by providing subsidies to mitigate the economic impact. Germany has some of the world’s largest coal deposits, two-thirds of which are located in the eastern states of Saxony and Brandenburg. EU funding under the Green Deal is enabling eastern German states to offer large subsidies to attract EV producers to the region.

The German government’s commitment to electric cars, along with the EU’s financial transfers, have given eastern Germany a new opportunity to reindustrialize, and thus generate prosperity and pride. More firms will move to eastern Germany as car companies localize their supply chains. Domestically produced EVs will become cheaper as competition among manufacturers increases and battery cells no longer need to be imported from Asia. Finally, increased local demand for labor will boost incomes.

This is a major development. Eastern Germany has suffered from three decades of deindustrialization since the collapse of communism, largely because of poor policy decisions. Prior to the October 1990 reunification, the West German government decided to liberalize trade with the DDR overnight, and the East German Ostmark was converted into Deutsche Marks at a rate of 1:1. The currency reform caused eastern German wages to rise to 70% of western German levels, even though productivity in the east was only 30% of that in the west. As a result, East Germany’s manufacturing sector immediately went bankrupt.

The Treuhandanstalt, a new institution established by the DDR government, privatized and sold eastern German firms and assets to western companies, often at a symbolic price of one DM, in exchange for job guarantees. This huge subsidy gave western firms an incentive to move to the east, even though the region had lost its comparative low-wage advantage. The tense political atmosphere of those days is well captured in the excellent Netflix series A Perfect Crime, which documents the 1991 assassination of Detlev Rohwedder, the Treuhandanstalt’s first president.

The German government subsequently erred in dissolving the Treuhandanstalt after it had sold almost all eastern German firms to western investors. Without the agency’s subsidies, investment in eastern Germany dried up, and the region’s convergence toward western German per capita income levels stalled.

Germany’s bumpy reunification process was shaped by two false narratives. The first was that the Treuhandanstalt was selling out eastern Germany by giving away valuable assets to western firms. But these giveaways were necessary subsidies to induce firms to come to a region that had lost its cost advantage following the currency reform.

The second damaging narrative was that eastern Germany had nothing to sell to the world and a low-value manufacturing sector. But the region had nothing to sell because the currency reform robbed it of the cost advantage that countries at a similar level of development usually enjoy. This narrative had a harmful effect on eastern Germans’ psyche, because people suddenly felt they were worth nothing in a market economy. Their self-esteem was probably higher under communism, because East Germany was regarded as a manufacturing pioneer in the Soviet bloc and exported successfully to other Eastern European countries.

In 1990, then-German Chancellor Helmut Kohl predicted “flourishing landscapes” in the east of the country. Many have long regarded his vision as too optimistic, and it still has not materialized. But by becoming an EV powerhouse, eastern Germany can help to drive the green transition and prove Kohl right.

Republishing and referencing

Bruegel considers itself a public good and takes no institutional standpoint.

Due to copyright agreements we ask that you kindly email request to republish opinions that have appeared in print to [email protected].

Read article

Blog Post

Climate finance: an agenda for EU coordination with emerging markets

Addressing the challenge of financing the low-carbon transition will require substantial investment in the European Union and in emerging and developing economies. Sustainable finance frameworks have proliferated in advanced and emerging markets but fragmentation of financial flows due to different classification systems and standards for green financial instruments is a real risk. Ensuring consistency should be a core agenda for the new International Platform on Sustainable Finance.

By: Alexander Lehmann and Mark Plant Topic: Energy & Climate, Global Economics & Governance Date: September 9, 2020
Read article More on this topic More by this author

Blog Post

The Wirecard debacle calls for a rethink of EU, not just German, financial reporting supervision

The spectacular collapse of Wirecard AG should serve as a wake-up call for the European Union on the need to pool the relevant supervisory mandates at EU level.

By: Nicolas Véron Topic: Finance & Financial Regulation Date: June 30, 2020
Read article More on this topic More by this author


The message in the ruling

The German Constitutional Court's ruling on the ECB's asset purchase programme is open to much criticism but it can hardly be blamed for raising an important question.

By: Jean Pisani-Ferry Topic: European Macroeconomics & Governance Date: May 12, 2020
Read article More on this topic More by this author

Blog Post

Banking regulation in the Euro Area: Germany is different

Despite progress in recent years towards a single banking policy framework in the euro area – a banking union – much of the German banking system has remained partly sheltered from uniform rules and disciplines that now apply to nearly all the area’s other banks. The resulting differences in regulatory regimes could generate vulnerabilities in the still-incomplete banking union, which is being tested in the context of the COVID-19 pandemic.

By: Nicolas Véron Topic: European Macroeconomics & Governance Date: May 7, 2020
Read article More on this topic More by this author


Scholz's improved plan to complete the banking union

The head of German Finance has written in the Financial Times defending the need to deepen the banking union, now London is about to leave

By: Rebecca Christie Topic: European Macroeconomics & Governance Date: November 8, 2019
Read article More on this topic More by this author


Schaut in die Region!

Die deutsche Industriepolitik folgt bisher keiner klaren Strategie, sondern ist von Unternehmensinteressen getrieben. Das ist der falsche Weg.

By: Georg Zachmann Topic: Energy & Climate Date: October 29, 2019
Read article More on this topic More by this author


The Case for Intelligent Industrial Policy

Although national industrial policies have a bad reputation, there is a strong case for government support to sectors that will increasingly rely on artificial intelligence. In this regard, the German government’s plan to promote production of electric-car batteries may accelerate an industrial renaissance in Europe.

By: Dalia Marin Topic: European Macroeconomics & Governance Date: October 7, 2019
Read article More on this topic More by this author


Germany’s Divided Soul

Eastern Germans vote, think, and feel differently than western Germans do, as the results of the September 1 regional elections make clear. To help tackle the underlying economic causes of this divide, the federal government should introduce incentives to encourage foreign investment in the east of the country.

By: Dalia Marin Topic: European Macroeconomics & Governance Date: September 13, 2019
Read article More on this topic More by this author


Why Europe needs a change of mind-set to fend off the risks of recession

Recession! This is the new worry in Europe and the US. A simple look at google trends shows that in Germany, France and the US, search interest for recession peaked in the last weeks. In Italy, the peak already occurred end of January. Whether a recession is actually occurring is difficult to gauge in real time. But there can be no doubt that significant risks such as the trade war and no-deal Brexit exist.

By: Guntram B. Wolff Topic: European Macroeconomics & Governance Date: September 2, 2019
Read article More on this topic

Blog Post

Talking about Europe: Die Zeit and Der Spiegel 1940s-2010s

An on-going research project is seeking to quantify and analyse printed media discourses about Europe over the decades since the end of the Second World War. A first snapshot screened more than 2.8 million articles in Le Monde between 1944 and 2018. In this second instalment we carry out an analogous exercise on a dataset of more the 500 thousand articles from two German weekly magazines: Die Zeit and Der Spiegel. We also report on the on-going work to refine the quantitative methodology.

By: Enrico Bergamini, Emmanuel Mourlon-Druol, Francesco Papadia and Giuseppe Porcaro Topic: European Macroeconomics & Governance Date: July 18, 2019
Read article More on this topic

Blog Post

‘Lo spread’: The collateral damage of Italy’s confrontation with the EU

The authors assess whether the European Commission's actions towards Italy since September 2018 have had a visible impact on the spread between Italian sovereign-bond yields and those of Germany, and particularly whether the Commission’s warnings have acted as a ‘signalling device’ for bond-market participants that it might be difficult for Italy to obtain the support of the ESM or the ECB’s OMT programme if needed.

By: Grégory Claeys and Jan Mazza Topic: European Macroeconomics & Governance Date: July 8, 2019
Read article More by this author

Blog Post

It’s hard to live in the city: Berlin’s rent freeze and the economics of rent control

A proposal in Berlin to ban increases in rent for the next five years sparked intense debate in Germany. Similar policies to the Mietendeckel are currently being discussed in London and NYC. All three proposals reflect and raise similar concerns – the increase in per-capita incomes is not keeping pace with increases in rents, but will a cap do more harm than good? We review recent views on the matter.

By: Inês Goncalves Raposo Topic: European Macroeconomics & Governance Date: July 8, 2019
Load more posts