The new east German economy: Problems of transition, unification and institutional mismatch

This paper identifies three different problems faced by the east German economy in the wake of reunification. The first is the problem of transition in which an effective state has to be established, and credible macroeconomic conditions, powerful market forces, a functioning banking system and effective corporate governance of enterprises introduced. It is argued that this set of problems was largely solved via unification. Yet unification brought with it a serious regional problem. Government policy has sought to deal with the regional problem by a programme of subsidising investment, but the costs imposed on the east by the transfer of the wage bargaining and social security systems remain. The heart of the east German economic problem lies with the successful transfer of some but not all west German institutions. The resulting institutional mismatch is likely to be difficult to resolve, with the consequence that a slow process of convergence of the east German economy to the level of output per capita of the west can be expected.