East Germany: A Sad Lesson About 'Self-Sufficient' Economies
Those who complain about jobs ‘lost’ to offshoring generally don’t consider that the purpose of working is to consume. Offshoring production to other jurisdictions helps us to make the goods and services we use as efficiently as possible, by casting the widest possible net for the most economic way to fulfill each stage of production. The alternative to offshoring is to pursue autarky and build a closed economy. How well has that worked out?
Not very well, as the experience of the old German Democratic Republic demonstrates. The division of Germany after World War II offered a virtual equivalent of a controlled experiment to determine the effectiveness of closed and open economies at creating wealth. While West Germany sought to import what it needed to prosper, East Germany tried to create an economy that offered a virtual mirror image of the world, creating and producing many goods even if they could be obtained at less cost by importing. While East Germany sought self-sufficiency, West Germany pursued interdependence. Which model worked better?
One of the best examples of the GDR’s pursuit of self-sufficiency was its attempt to achieve a competitive edge in microchips – matching the resources that could be marshalled by a state of just 16 million people against the research and development and production resources of the entire western world. The predictable result? From the time East Germany first attempted to pursue a microchip industry in 1977 to the time the Berlin Wall came down, mission microchip swallowed increasing amounts of internal resources and hard currency – at a cost that far exceeded the alternative of simply importing the component. The East German economy expended 40 marks to make each 40kb microchip, which it could have purchased from the United States or Japan for just 1 or 2 marks. Producing each 256kb chip cost 534 marks, more than 130 times what it would have cost to import from the West. The great leap forward turned out to be a giant leap backward, squandering human and material resources rather than making the most of them.
The East German regime may have thought that their costly investment yielded dividends in the form of jobs. But the costly gamble actually diverted resources that would have been more efficiently deployed in other sectors. They forgot one of the most important principles of wealth creation: Human beings are a resource, capable of producing a number of things. Utilizing that resource to make something that is available less expensively from elsewhere isn’t making the most of human resources, it is wasting them. The East German failure to establish a competitive microchip industry demonstrates that fact, and illustrates why globalization – not economic insularity – is the basis for maximum wealth creation and improved standards of living.
Globalization allowed western firms to maximize economies of scale, spreading production costs over a wider and larger market. Meanwhile, East Germany was pouring billions of marks – a fortune for one small country – in a vain pursuit of the resources available to global entities. Globalization allowed western firms to pursue comparative advantage, making the most of reduced labor costs in some economies while raising standards of living across the board. It allowed western firms to pursue specialization, by delegating production and assembly work to other countries – while East Germans were trying to reproduce the efforts and skills available around the world on their own virtual economic island of a few million people. Globalization allowed western firms to pursue technology transfer, using the spillover effect to disseminate knowledge across markets. And globalization of western economies reduced the potential for monopoly power, and drove competitive companies to respond rapidly to changing global demand. Meanwhile, an unwieldy, rigidly centralized East German authority could not match their competitors’ adaptability and speed.
The failure of the East German economy seems like old news now. But the lesson is too often forgotten, or simply never learned: A country doesn’t become wealthy by trying to produce everything under their own economic roof. Wealth results from utilizing the resources of the widest possible market.