Like Adenauer, Striking While the Iron’s Hot

German Chancellor Konrad Adenauer’s postwar decade holds several lessons for today’s China, namely – the decision to revalue its currency.

Prime Minister Wen Jiabao’s recent lightning summit with German Chancellor Angela Merkel marks a good time to consider what lessons Germany might hold for China. Whether it’s currency tensions, trade surpluses or security concerns – and perhaps even reunification – postwar Germany holds fascinating and sobering parallels for China.

There are some obvious similarities. Germany dominates Europe. It is geographically at the heart of Europe. There can be no peace, no prosperity and no security in Europe without Germany.

All of this is true for China and Asia. Japan is still the world’s third largest economy, almost as large as China, but it’s a small chain of islands tucked off the northeastern edge of China. Fast-growing India, though it has a population that will overtake China’s in two decades’ time, is removed from the dynamic East Asian economies that have driven growth in recent decades.

Germany endured two of the deadliest wars in human history in the past century. Much has been written about whether or not China should be compared to the rising Germany of a century ago. There’s no obvious reason to think that China must repeat the mistakes that Germany made as a rising power and plunge into conflict.

What really should interest us is not war but peace – and the institutions that promoted economic growth and free trade throughout Europe after 1945. After the war, Germany reached out to its neighbors. It was lucky to have Konrad Adenauer as prime minister. Working with the proud and prickly French leader Charles De Gaulle, Adenauer saw that Europe needed strong institutions to promote trade. With trade would come economic stability and prosperity.

Starting with the European Coal and Steel Community, a French initiative, Germany slowly built up a regional framework that promoted economic growth.  Indeed, a modified version of the coal and steel community’s flag is today’s European Union’s flag. From small beginnings come powerful institutions.

Trade in postwar exploded, much as it has in China and throughout East Asia. In Germany, foreign trade tripled between 1950 and 1958. Germany kept the export boom from turning into inflation by increasingly opening up her borders to imports. That kept competition high and, by preventing a large trade surplus, inflation low.

Significantly, the German Mark was strong, and continued to strengthen in a series of controlled revaluations. German manufacturers predictably howled in protest as the Mark was repeatedly revalued. Many politicians, too, complained. But the tough political decision to revalue was taken. That kept inflation – and asset bubbles – low and led to long-term prosperity.

China’s unhappy property price bubble today is one symptom of an economy that is choking on its success – its massive trade and current account surplus distorted in an economy that is still straitjacketed by too many controls. Too much money is chasing too few investment outlets with property virtually the only outlet.

The 1950s are usually thought of as the time of the German economic miracle, the “wirtschaftwunder.” In fact, as Norman Stone points out in his fascinating book, “The Atlantic and Its Enemies,” the origins of the phrase go back to a 1936 book extolling Hitler’s success in reducing unemployment. At that time, Germany’s prowess was symbolized by its highways and cars like the “people’s car,” the Volkswagen.  Economist Joseph Schumpeter, famous for his phrase about the “creative destruction” of capitalism, said that Germany by 1931 was no longer a capitalist state, such was state regulation and protectionism.

The German “economic miracle” of the 1930s was unbalanced, relying as it did on the state and large corporations working together.  Many historians think that the “alliance of Iron and Rye,” uniting protected industries, farmers and the government in a charmed circle of prosperity prevented Germany from developing as a normal Western country, “a sort of huge Netherlands,” in Norman Stone’s phrase.

There may be similar dangers for China, as the country turns away from entrepreneurialism and the state nurtures large state-owned enterprises. China’s leaders have often been willing to sacrifice narrow interests for the good of the whole. That is the great promise of authoritarianism. The success of most East Asian economies in recent decades is proof that when leaders have the good of the nation at heart much can be accomplished. But when the state is captured by narrower interests, this same authoritarianism doesn’t have the self-correcting mechanisms of a democracy.

Zhu Rongji and Jiang Zemin gambled on WTO entry a decade ago. It’s hard to remember, as China debated WTO accession, how many people thought that this would be the end of Chinese industry and agriculture. But Zhu and Jiang knew that economic reforms were running out of steam. Only an external prod like WTO could get them going again. In the end, WTO entry galvanized China and led to a decade of the most extraordinary growth that the nation has ever seen. Will China’s leaders over the next decade have the same sort of courage to take difficult decisions?

What are the lessons in all this for China? First, is the importance of laying claim to regional leadership. Germany was weak, certainly far weaker than China is today. Yet Germany accepted, and even cautiously embraced, its regional leadership role. Adenauer and other leaders were willing to make short-term sacrifices for its economy in order to build regional prosperity. This was the beginning of what developed into the European Union and the Euro.

This enlightened leadership led to a remarkable achievement for a continent whose two largest countries, France and Germany, had been in a state of on-and-off warfare for centuries.  Half-a-century later war between Germany and France is simply inconceivable. But can we say that conflict between China and Japan or India – or even Taiwan – is out of the question?

In Asia, if the big three – China, Japan and India – do not get it right, the peaceful and prosperous Asia we all hope for won’t have a chance to develop. Only China today can play the role of Germany. Yes, much has been done with trade agreements. But there’s much more that can be done. China needs to act more boldly to build regional institutions. These must start with economic institutions. Someday the time may be ripe for security institutions. But for now let’s start with greater and more enlightened economic leadership. For its own good, and for the good of the region, a stronger currency is the most obvious place to start.

Originally published in Caixin. Can be accessed at english.caixin.com/2010-10-12/100187836.html