German economic and monetary union: impact on private and public capital flow

Abstract

Clearly, German economic and monetary unification (GEMU) was the most severe real shock by far to affect either German economy in their post-war history. In terms of economic theory, what happened was the integration of two neighbouring regions with vastly differing factor endowments and productivity levels. Productivity in eastern Germany, for instance, is generally assumed to have been only one-third of the western standard at the time of unification. Given virtually perfect factor mobility between the two parts of the country, persistence of this situation would be unsustainable economically, socially, and politically. Hence, it is imperative for the East to significantly reduce the productivity and income gap relative to the West within no more than a few years.