Highlights of Germany’s “Miracle on the Rhine”
- Larissa Cheung
- Jun 30, 2022
- 4 min read
“Wirtschaftswunder”, also known as the “Miracle on the Rhine” refers to a rare historical occurrence of unexpectedly strong economic growth. This is more colloquially recognised as Germany's post-World War II (WWII) “economic miracle”.
The effects of WWII were devastating for Germany; the 7.7 million civilian and military deaths drastically reduced the population. Infrastructure was completely destroyed by bombings and attacks, which is reflected by the fall of inhabitable accommodation and 20 percent of destroyed housing. The country’s industrial output fell to one-third of its pre-war levels. Food production per capita dropped by half, leading to food rations of only 1000 to 1500 calories daily, which is insufficient for the average female and malnourished for the average male. Figure 1 depicts how Germany’s population demographic shifted, where many military deaths affected the working-aged men of the population. This shift likely increases the burden on households, reducing family revenues and living standards further. These factors contributed to a significant decline in living standards, which caused social unrest, hindering economic productivity and destabilising institutions. At the time, Germany’s currency, the Reichsmark, was essentially worthless, so much that hundreds of Reichsmarks had a lower economic transactional value than a pack of American cigarettes. The Reichsmark was already worthless since Germany’s 1923 hyperinflation crisis and was further perpetuated by the spending on war with fiat money, which increased the risk and occurrence of inflation, consequently causing Germany’s currency to lose all of its economic value. Needless to say, Germany’s desolate economy needed either a very long time to recover or a miracle.
Figure 1: Germany’s population pyramid in 1939
The rebirth of Germany’s economy is accredited to two incredible individuals, German economist Walter Eucken and German politician Ludwig Erhard. Eucken developed the “social market economy,” and Erhard successfully promoted this ideology and executed a plan that saved Germany’s economy.
Eucken’s ideology consisted of the coexistence of free-market capitalism and government intervention, known as the social free market. Despite how this approach is seemingly common and uncontroversial today, socialist ideology was controversial at this time as it contrasted with Hitler’s ideology of autarky (economic self-sufficiency and independence), which was the norm for most people in post-war Germany. The social free market is described a free-market run by the market forces, which used natural market forces to achieve allocative efficiency. This was accompanied by government policy, which aimed to minimise the drawbacks of capitalism. For example, anti-competitive regulations were implemented to prevent the exploitation of market power by monopolies and oligopolies. A government-run social welfare system was used to support economically struggling civilians. Just like Milton Friedman, Eucken supported having a well-established government-independent monetary institution or central bank, to manipulate the money supply and legal tender of the economy.
Moreover, aided by his political power, Erhard began an elaborate plan to rejuvenate Germany’s economy. The former currency of the Reichsmark had little to no economic value, so it was soon replaced by the Deutschemark. This currency replacement reduced the money supply by 93 percent, hence reducing the remaining real wealth of German individuals and firms. Alongside this, tax cuts were implemented to incentivise spending and investment, aiming to increase aggregate demand. Furthermore, Erhard proposed the removal of price control policies the same day that the Deutschemark was implemented, allowing market forces to efficiently allocate resources, and also avoiding problems such as shortages, issues involved with non-price rationing such as chaos erupting from a first come first served mechanism, and the development of the already problematic black market.
Fortunately, the revival of the German economy was almost immediate. With a new currency that had a transactional value, bartering which made up most of the black market collapsed, replaced by the commercial market run by new and valuable German legal tender. Many Germans had to resort to the standard black market practice of bartering, which was extremely inefficient due to the lack of a common measure value. Re-establishing money as the medium of exchange returned economic efficiency and order. The incentives to work and spend increased economic activity, whilst government policies and the introduction of the Deutschemark formed a safety net in case of further economic collapse. There was a twofold decline in absenteeism, a phenomenon where people were absent from work as they lacked an incentive to earn money with little economic value, and where they instead sought food and living necessities through bartering in the black market. In 1948, only six months of strategic economic management revived Germany’s industrial production from half of the pre-war levels to almost 80 percent.
As many economists would argue, complete polarisation to extremes of political philosophy such as autarky or socialism is highly ineffective for achieving economic efficiency or solving economic problems. Just like how all economically prosperous countries today are run by a mixed economic system, Germany’s miracle was no exception to achieving successful growth. Eucken, Erhard, and supporters of a “social market economy” truly comprehended the damaging effects of inflation, rigid price controls, and high tax rates, and simply sought to reverse these with effective policies.
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