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Journal of European Public Policy

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The trajectory of institutional

change in Germany, 1979–2009
Gregory Jackson & Arndt Sorge
Published online: 11 Sep 2012.

To cite this article: Gregory Jackson & Arndt Sorge (2012) The trajectory of institutional
change in Germany, 1979–2009, Journal of European Public Policy, 19:8, 1146-1167, DOI:
10.1080/13501763.2012.709009

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 Journal of European Public Policy 19:8 October 2012: 1146 –1167

The trajectory of institutional change

in Germany, 1979 –2009
Gregory Jackson and Arndt Sorge

ABSTRACT Over the last three decades, the German political economy can be
characterized by both institutional continuity and change. Understanding the
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dynamics of institutional change therefore requires an examination of the interplay

of changes in formal institutional rules and how organizations respond to these
changes by strategic attempts to promote or hinder further change in institutions.
The macro-level political story of institutional change shows a number of paradoxes
resulting in unexpected and often incomplete forms of market liberalization shaped
by continued support for some core features of Germany’s social market economy.
The resulting erosion of Germany’s co-ordinated model of economic organization
through networks and business associations has gone hand-in-hand with the
attempts to preserve these institutions for core workers and sectors of the
economy in the face of changing environments. The result is a more varied insti-
tutional landscape characterized by international diffusion of liberal policies and
the politics of their variable re-embedding within a long-term path of institutional
continuity.
KEY WORDS Germany; institutional change; varieties of capitalism.

1. INTRODUCTION
The institutions of the German political economy display both remarkable con-
tinuity and dramatic change over the last thirty years. Germany is often con-
sidered to be a “co-ordinated market economy” (CME) (Hall and Soskice
2001). Based on the embeddedness of firms in strong sectoral and corporatist
associations, as well as dense inter-firm networks (Yamamura and Streeck
2003), stakeholder co-ordination takes place across different institutional
domains of financial markets, corporate governance, employment relations
and training. However, these co-ordinating institutions have become less
encompassing in scope over time. Associations now play a lesser role in financial
markets, collective bargaining and training. Likewise, network-based forms of
governance (bank and cross-ownership of shares in joint-stock companies)
have also weakened substantially. Thus, one can observe substantial liberaliza-
tion, but also adjustments of existing co-ordinated institutions to these changing
circumstances.
Understanding institutional change requires looking at changes in the formal
rules, as well as their social and economic prerequisites. One related historical
Journal of European Public Policy
ISSN 1350-1763 print; 1466-4429 online # 2012 Taylor & Francis
http://www.tandfonline.com
http://dx.doi.org/10.1080/13501763.2012.709009
 G. Jackson & A. Sorge: The trajectory of institutional change in Germany, 1979–2009 1147

specificity of the German case is the intense problem situation of German uni-
fication starting in 1990 combined with the threats and opportunities presented
by internationalization. The extension of the German political and economic
institutions to the East not only brought back questions about national identity
and policy-making; it also stretched the welfare state and tax system to its limits.
A new search began to pursue economic performance in the private sector, while
balancing of public and social insurance revenue budgets (Streeck 2009). Mean-
while, the external environment changed rapidly and shaped the renegotiation
of socio-political compromises underlying several key institutions. Decision-
makers were influenced by neoliberal and shareholder-value concepts that
diffused through international business contacts (Fiss and Zajac 2004) and
supranational regulation (Callaghan and Höpner 2005). However, business
and political élites did not form a unitary coalition behind neo-liberal policies
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– rather, business supported modification but not dismantling of institutiona-

lized co-ordination, particularly in sectors where these yield strong comparative
advantages. Other powerful stakeholders and the consensus-oriented features of
German politics meant that liberalization occurred through selective and some-
times piecemeal approach to reforms, alongside a dynamic adaptation of organ-
izations to the new meanings and boundaries of institutions.
This contribution looks at the change of economic institutions in light of
changes in domestic policies and politics, as well as international influences.
In this way, the German case may be suggestive for unravelling the interplay
of international influences and the domestic change of institutions in other
countries. Reforms sharpened conflicts between corporate governance and the
welfare state institutions, in particular. The particular configuration of liberal-
ization in Germany was therefore paradoxical: whereas business maintained
high co-ordination among core employees and suppliers, the parallel retrench-
ment of the welfare state and deregulation of the atypical labour contracts has
created distributional conflicts between corporate insiders and outsiders.

2. CRITICAL JUNCTURES AND INSTITUTIONAL CHANGE IN

GERMANY
This section provides an overview of the major institutional changes induced by state
policies in Germany over the last three decades, which are also summarized in Table
A1 in the Appendix (on data sources, see Jackson and Wylegala 2012). While the
broad trend can be described in terms of liberalization, these reforms have occurred
at different times across different institutional domains involving different degrees of
discontinuity with the past and sometimes moving in different directions.
Regarding financial markets, legal reforms aimed at wide ranging liberalization.
In the 1980s, domestic banks faced a declining demand for credit and loosening
of relationships with large firms. The first reforms in 1986 and 1989 opened up
the stock exchange trading system through electronic trading and a futures
exchange. The critical juncture was the series of four Financial Market Promotion
Acts in 1990, 1994, 1998 and 2002. The 1990 act eliminated various taxes of
 1148 Journal of European Public Policy

financial market transactions, and established mutual funds and other investment
vehicles. The 1994 act established a single national financial services regulator,
which represented a major shift from the tradition of corporatist self-regulation
toward an increased the role of the state along the model of the Securities and
Exchange Commission (SEC) in the United States (US). New regulations were
established regarding disclosure and insider trading. The 1998 reforms promoted
the stock market and equity finance through new listing requirements and allow-
ing companies to adopt international accounting standards – giving firms a
choice to between domestic creditor-oriented rules or international equity-
oriented rules. The 2002 act renewed stock market regulation and restricted
share price manipulation. Finally, 2002 reforms allowed the tax-free sale of
long-term equity stakes held by banks and corporations.
These reforms shifted Germany away from its bank-based financial system
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and toward more market-orientated finance. Since 1990, around 20 per cent
of shares in Germany are held by foreign investors – usually institutional inves-
tors from the US or the United Kingdom (UK). The orientation of these inves-
tors toward financial returns and arm’s-length approach to investment has
become an important force in corporate governance. Meanwhile, German
banks and firms now have many financial options that were not previously avail-
able. These changes have nonetheless had an uneven or even bifurcating effect
(Deeg 2009). Large commercial banks, such as Deutsche Bank, underwent
very dramatic shifts away from relationship banking and toward investment
banking. Meanwhile, the large savings bank and co-operative banking sector
maintained a much more traditional relationship banking model, albeit in an
evolving form. Overall, the degree of ‘financialization’ in Germany remains
modest, since the household sector is reluctant to purchase equities and
private pensions remain modest. Reforms have operated by institutional layer-
ing, whereby new practices are facilitated through incentives and rules placed
alongside pre-existing practices.
Regarding corporate governance, legal reforms increased the orientation of
large, listed corporations toward shareholder value. Corporate law reforms in
the mid-1990s were focused on minor aspects of accounting and promoting
incorporation of small firms. The 1998 reform (KonTrag) was a critical juncture
and mixed different political motivations – the desire by the Christlich Demok-
ratische Union (CDU) to increase transparency of capital markets, the aim of the
Sozialdemokratische Partei Deutschlands (SPD) to limit the power of big banks in
Germany, and new US-inspired debates over corporate governance (Ziegler
2000). Key provisions included improving auditor independence, as well as dis-
closure of multiple supervisory board memberships and ownership stakes
exceeding 5 per cent. Shareholder influence increased by eliminating multiple
voting rights and voting rights restrictions, barring banks from using proxy
votes in conjunction with direct shareholding exceeding 5 per cent, requiring
banks to solicit proxy instructions from shareholders, and giving the supervisory
board greater duties of financial oversight. Restrictions on share buybacks and
stock options were removed.
 G. Jackson & A. Sorge: The trajectory of institutional change in Germany, 1979–2009 1149

The fall of Enron and recent emergence of the sub-prime financial crisis refo-
cused attention on corporate governance practices. A German Code of Corpor-
ate Governance was issued in 2002, outlining best practices inspired from a
largely shareholder-oriented perspective, but without much actual regulatory
influence (Luetz et al. 2011). The new code is embedded in law via a
‘comply or explain’ rule in the Transparency and Disclosure law (Transparenz-
und Publizitätsgesetz). Subsequent reforms improved the independence of the
auditor (2005), streamlined the process of shareholder lawsuits (2005), man-
dated disclosure of executive pay (2005), and streamlined the process for exer-
cising proxy votes (2009).
Takeover rules remain a critical area of regulation. Germany adopted a voluntary
takeover code in 1995 to fill the legal gap regarding takeover bids in the absence of a
European directive. After a period of low compliance and the hostile takeover of
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Mannesmann, a new European Union (EU) takeover directive was proposed but
deadlocked in the European Parliament (Callaghan and Höpner 2005). A
central issue opposed by German industry was the requirement for board ‘neu-
trality’ during hostile bids (Culpepper 2011). Germany then passed a Takeover
Act in 2002 replacing board neutrality with an option for defensive actions given
prior shareholder approval. Specifically, the shareholders’ meeting utilize a 75
per cent majority vote to empower management regarding defensive actions for
an 18-month period. In 2004, a European Takeover Directive was passed based
on principles of the UK Takeover Code (Goergen et al. 2005), but allowing
Germany to opt-out of provisions regarding some takeover defences.
On the whole, the scope for defensive actions has become relatively con-
strained.1 While some legal uncertainty remains, the board must generally be
neutral. Defensive strategies are limited to share buybacks, engaging in alterna-
tive acquisitions and searching for a white knight. Legal reforms on takeovers
and equity swaps, alongside the changes in corporate ownership, have opened
the takeover market substantially. During 1991– 1997, Germany averaged
1,479 deals annually worth 1.4 per cent of gross domestic product (GDP)
(Jackson and Miyajima 2007). During 1998– 2005, this level increased to
1,607 deals annually, with a value equivalent to 7.5 per cent of GDP, three-
quarters of which was cross-border. The value of domestic deals was 1.9 per
cent of GDP compared to 2.4 per cent of GDP for German firms acquiring
foreign targets or 3.4 per cent of GDP for foreign firms acquiring German
targets. Nevertheless, the number of hostile takeover bids has remained low.
The takeover of Mannesmann by Vodafone in 2000 certainly shifted managers’
awareness toward the importance of maintaining share prices to hold off unso-
licited bidders (Höpner and Jackson 2006).
Taken together, legal reform has increased the salience of shareholder interests
(Klages 2012), while often remaining below the radar screen of public debate
(Culpepper 2011). Little stakeholder-focused legislation passed, apart from
recent regulation of executive compensation (2009) stressing more caution
toward stock options and reasonable levels of total remuneration. Nonetheless,
unions have succeeded in stopping reforms that would directly endanger the role
 1150 Journal of European Public Policy

of co-determination. Corporate governance reform has thus proceeded largely

through institutional layering. The growing influence of shareholders and liber-
alized use of corporate equity co-exist with a largely unchallenged institution of
employee codetermination through the supervisory board and works councils.
New rules have thus been layered onto past rules, creating a new combination
or hybrid of shareholder and stakeholder corporate governance (Faust 2012;
Jackson, 2005).
Regarding employment and industrial relations, secure employment has been a
major institutional feature that reflected the strength of labour in the post-war
period (Emmenegger and Marx 2011). However, Germany has been marked by
the after-effects of unification: steeply rising unemployment; rapid assimilation
of wages between East and West; and massive social transfers from West to East
(c. E150 billion per year). On the whole, the institutional package of industrial
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relations was absorbed in East Germany. Past traditions of management

and severe challenges of transformation from a non-capitalist past often led
to tightly integrated workforces in co-managed plants and enterprises. If
German industrial relations are often typified as harmonious, East Germany
fitted in rapidly by becoming super-harmonious, despite the frenzied and con-
flictual fight to keep companies alive, or maybe because of it. Meanwhile, trade
union membership has faced long-term decline. Owing to increasing unem-
ployment in the East and the perceived inability of the new West German
unions satisfactorily to address that problem in collective bargaining, unioniza-
tion soon sunk below West German levels. Comparing East and West in 2009,
collective bargaining coverage is lower (34 per cent versus 52 per cent) and
works councils represent fewer employees (38 per cent versus 44 per cent), so
that only 18 per cent of the East German workforce are covered by these two
key institutions (Hans-Boeckler Foundation 2012).
Meanwhile, long-term employment and co-operative industrial relations have
also undergone slow erosion in the core sectors of the economy. Three dynamics
help explain this. First, collective bargaining coverage become less centralized
owing to the growth of company-level rather than sectoral agreements. Wage
restraint did help sustain Germany’s export surplus in core manufacturing
sectors, including investment goods to newly industrializing countries such as
China and Brazil. Membership in employers’ associations has nonetheless
declined, as employers seek more flexibility and seek to cut labour costs.
Second, while co-operative industrial relations and long-term employment has
remained an asset for German industry, the coverage of these institutions is
slowly shrinking with the gradual shift of employment from manufacturing to ser-
vices. The number of employees in manufacturing was 7.3 million in 1979 and
jumped to 10.6 million after Unification in 1990, before declining to 7.4 million
in 2009 (Statistisches Bundesamt various years). While German manufacturing
employment remains high relative to many other advanced Organization for
Economic Co-operation and Development (OECD) economies, its relative
share declined from 31.4 per cent to 18.5 per cent of total employment
between 1979 and 2009. Third, labour law reform liberalized new patterns of
 G. Jackson & A. Sorge: The trajectory of institutional change in Germany, 1979–2009 1151

atypical employment. Restrictions on the use of agency work were loosened in

1997 and abolished in 2003. The duration of fixed-term employment contracts
was also extended to 24 months in 1996.
Taken together with welfare state reforms discussed below, these trends point
toward a growing dualism in the German labour market (Palier and Thelen
2010). As will be discussed below, these trends were reinforced by reforms in
the social insurance system and growth in active labour market policies. But
despite liberalization, several reforms have sought to at least partially counter-
balance existing erosion of German industrial relations. First, works councils
were modernized in 2001 in ways that made their structure less bureaucratic
and more adaptable to the diverse needs of small and medium enterprises,
complex network forms of organization, and different categories of outsourced
or temporary employees. Second, the state sought to support social protection
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by passing a minimum wage for the construction industry as a way of preventing

social dumping, given the vast increase of migrant labour in the industry.
Regarding training and skill formation, legal reform has not been a major
driver of change. The constellation of interest groups is complex, and the
social partners and state often face their own internal conflicts of interest.
Still, several trends are important. First, policies have sought to broaden and
upgrade skills within the occupational training system. Here, a critical juncture
was the new regulation of trades in the metal industry and in electrical engineer-
ing within the dual system of training during 1990. Reform moved away from
specialized and toward broader occupational profiles (Busemeyer 2009a,
2009b). Four new information technology (IT) related occupational profiles
were introduced, and the process to upgrade skill profiles was steamlined.
Second, the state invested directly in rather generalist, college-type of education
through Berufsakademien and Fachhochschulen. An important concern was to
better prepare school leavers with deficiencies for basic apprenticeship training,
since increasing numbers failed to get places within the apprenticeship system. A
series of measures and programmes aimed to provide either substitute training
in public schools/workshops, or to remedy skills and knowledge deficiencies of
entrants into the labour market. Other policies aimed to make training by
apprenticeships more accessible by (re-)introducing trades with two-year train-
ing duration in 2003, a reinvention of an older pattern abandoned after 1969.
Such training programmes were meant for less demanding occupations, to at
least offer something to school leavers with low achievement. Third, the state
also intervened to support social partners in ensuring or increasing the supply
of occupational training through new funding schemes in 2004 and 2008.
The dual system of training has thus remained attractive, despite some
increasing company specificity of training. But it has also suffered from declin-
ing interest of employers in offering training places during times of economic
downturn. Moreover, the accessibility of training places to lower secondary
school (Hauptschule) leavers, notably youngsters from migrant families, has
become a problem. There have been shifting coalitions: the state versus the
 1152 Journal of European Public Policy

social partners, and unions/the state versus the employers. This constellation led
to piecemeal adaptation of existing arrangements.
In terms of the welfare state, economic pressures facing unemployment insur-
ance, social benefits and the pension system have grown. Through the 1990s,
the costs of German unification became increasingly apparent and placed press-
ures on the welfare state through rising unemployment and declining labour
force participation. The massive transfer of money into the East was mainly
financed on the basis of contributions levied on labour costs, so that employ-
ment became disadvantaged. Low labour market participation meant reduced
contributions that were acute during cyclical downturns. The German state
adopted a speedily organized but ill-crafted retrenchment of welfare payments
and unemployment benefits, an operation that became known as the ‘Hartz
Reforms’, in 2003. These moves ushered in a new and far more conflictual
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era of ‘managed austerity’ (Vail 2010). Meanwhile, employment growth was

pursued through the expansion of poorly paid service work or temporary
forms of employment through active labour market policies and retrenchment
of benefits – resulting in labour market dualism institutionalized with the
support of state action (Palier and Thelen 2010).
Welfare state reforms reduced both taxes and expenditures from around 48
per cent to 43 per cent of GDP between 1999 and 2009. Looking at pensions,
the Riester reforms in 2000 reduced state benefits from 70 per cent to 67 per
cent of salary, and created new incentives for private pension savings. These
reforms have had little influence on the development of private pension
funds, whose assets remain low at 5 –7 per cent of GDP. Consequently,
pension reform had very little spillover effects on the German financial
system or corporate governance. Looking at social insurance, retrenchment
has been greater and spilled over to a larger extent on other labour market insti-
tutions. The Hartz I and II (2003) reforms and Hartz III (2004) deregulated the
market for atypical employment by liberalizing temporary work via new ‘Staff
Services agencies’ (PSA), created so-called ‘mini-jobs’ characterized by lower
taxes and insurance payments for casual employees, introducing the ‘Ich-AG’
(Me, Inc.) to support self-employment, and restructuring public job centres.
The more dramatic and contested Hartz IV (2005) reform merged benefits
for long-term unemployed (‘Arbeitslosenhilfe’) and the social welfare scheme
(’Sozialhilfe’), and shortened the duration of unemployment benefits from 36
to 18 months. The payment for social welfare was set at low level of E359
per month (‘Regelsatz’) plus the cost of ‘adequate’ housing. This retrenchment
of benefits was also consolidated by activation policies (‘workfare’) supporting
the expansion of around 300,000 so-called ‘1 Euro jobs’ for the long-term
unemployed. Today, two-thirds of unemployed receive these low-level residual
benefits. Spending on labour market policy fell from around 4 per cent of GDP
during the unification era to just 2 per cent in 2009. Most cuts affected benefits
or supported forms of employment and training – whereas administrative costs
for these programmes rose and also led to an explosion of court cases related to
benefits payments. These reforms were successful in lowering spending and
 G. Jackson & A. Sorge: The trajectory of institutional change in Germany, 1979–2009 1153

relieving the existing welfare state from mounting cost pressures – including
lowering contributions from 6.5 per cent to just 3.3 per cent in 2008 (Palier
and Thelen 2010). As such, the reforms have probably helped preserve the
system for core workers, but nonetheless led to major voter discontent with
the Social Democratic Party and in trade unions, together with the eventual
rise of the Left Party (Hassel and Schiller 2010).

3. THE POLITICS OF INSTITUTIONAL CHANGE

3.1. International dynamics
The EU-level influence can be understood as extending domestic politics in a
multi-level political setting that makes certain reforms more likely than within
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the domestic political arena (Callaghan 2010). With the deepening of the Euro-
pean market in the Single Market Programme, qualified majority voting had been
introduced in the area of economic integration, while social policies continued to
be underpinned by inter-governmental principles – the outcome being an asym-
metrical relation between negative and positive integration (Scharpf 2010). Cru-
cially, the penetration of European monetary and economic policies into the
domestic context of the member states has not been balanced with strong
social policy at the EU level. However, in some cases, segments of German indus-
try or other powerful stakeholders have opposed liberalization or sought to limit
its impact on existing institutional arrangements. The effect has often been con-
tradictory, involving both market-liberalizing and market-taming types of
reforms across different institutional domains. Whereas the EU played a major
role in financial market liberalization and corporate governance reforms, its influ-
ence was weaker regarding employment, training or the welfare state. The lack of
policy coherence has resulted in new re-combinations of liberal and relational
institutions in Germany.
The market-liberalizing influence of the EU is most clear in the case of finan-
cial markets. As the interests of German banks shifted, forces for financial lib-
eralization made gains as reformers were able to utilize the European agenda
to introduce new equity-oriented and shareholder-oriented reforms. For
example, financial market liberalization was closely tied to the Single European
Act in 1986 after the ‘big bang’ deregulation of UK financial markets sparked
fears of increased foreign competition. Subsequently, as European monetary
union became more certain, Germany played a leading role in the development
of EU directives on financial markets.
Meanwhile, market-taming reforms have been fewer and less successful in
Europe – for example, Germany has not been able to ‘export’ its stakeholder
model of co-determination. For example, European works councils are one
new European form of employee participation, but had only a very limited
influence on other national systems. Meanwhile, board-level co-determination
has not extended beyond requirements in national legislation. Here, Germany
acted only to limit measures that would allow German firms to avoid employee
 1154 Journal of European Public Policy

codetermination – thus, European rules on the Societies Europeans (SE) in

2000 opened European incorporation only to multinational firms and required
social partners to negotiate over company-specific codetermination rules.
The SE form has been adopted mainly from German or Austrian firms, and
resulted in less extensive co-determination requirements relative to German
law (Keller and Werner 2010). In a paradoxical way, an enterprise form
intended to be supranational became an instrument mainly used by enterprises
from a specifically German institutional and cultural setting.2 As discussed
above, the EU Takeover Directive similarly promoted a largely liberal, UK-
style approach and restricts takeover defences for German firms. Here,
Germany opposed the measure, but succeeded only in some opt-out clauses
regarding certain aspects of the directive.
Thus, Germany pursued liberalization but also sought to limit the direct
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impact of Europeanization on its existing stakeholder institutions. However,

these compromises have only partially stabilized these institutions in the face of
changing international circumstances. For example, European courts have
driven further liberalization of company location in the EU in ways that increas-
ingly make it possible to circumvent German regulations by locating, for
example, the headquarters of a company in a foreign country that does not
have board-level co-determination. This possibility was used in a few prominent
cases such as Air Berlin, an airline which has become a major rival of Lufthansa in
Germany and Europe and as a new member of the international Oneworld Alli-
ance. Similarly, EU directives opened German labour markets to workers for-
mally employed abroad and working in Germany ‘on loan’, which also
depressed wage rates in related jobs and undercutting collective agreements.
Initiatives to introduce national minimum wages by law have not been successful,
and led to only few sectoral minimum wage agreements. Outsourcing of work to
Eastern or non-EU countries has also occurred with ambiguous effects on dom-
estic employment, since domestic firms were sometimes kept viable this way. A
recent counter-tendency is to move work back to Germany, in view of logistic,
quality or deadline/delivery problems in foreign subsidiaries, suppliers and sub-
contracting firms. Taken together, Europeanization has not abolished stake-
holder-oriented governance institutions, but opened new social spaces at their
margins, leading to more frequent contestation of these institutions in practice.

3.2. Political parties and coalitions

The 1980s were dominated by the conservative CDU coalition with the economi-
cally liberal Freie Demokratische Partei (FDP). Helmut Kohl presided as German
Chancellor from 1982 until 1998. A notable feature of this period was the absence
of aggressive liberalization relative to Thatcher’s Britain or Reagan’s US. For
example, the government pursued policies supporting the numerical labour
market flexibility (e.g., temporary workers), but made no move to dismantle
co-determination or undermine the power of unions. Likewise, the government
supported financial market liberalization, but did not undermine the special
 G. Jackson & A. Sorge: The trajectory of institutional change in Germany, 1979–2009 1155

position of Germany’s regional and co-operative banks, which have strong

relationships with small- and medium-sized enterprises (SMEs).
Why was the government not more radical in pursuing liberalization? At least
three factors are important. First, business interests remained fragmented and
thus only supported moderate reforms. While private banks redefined them-
selves as investment banks and shifted preferences toward liberalization, large
industrial firms enjoyed a period of strong economic growth based on the
success of Germany’s export sector during the 1980s. Business sought to
reduce costs through liberalization of the labour market and social protection,
but also benefitted from protections of core workers and the ability to externa-
lize some adjustments costs on the state (Martin and Swank 2012; Trampusch
2009). The slow exhaustion of state-supported adjustment led to a re-politiciza-
tion of social welfare in the mid-1990s. Whereas the strong sectoral basis of
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German business associations meant insufficient support for encompassing

redistribution represented by the failed ‘Alliance for Jobs’ effort of the Schröder
government, the fragmentation of political power also impeded more sweeping
liberalization. Second, the consensus-driven nature of German electoral politics
and decentralization of power under the system of federalism all gravitate
against radical reforms driven by top – down policies. The majority in one
chamber of parliament has often been the opposite of the majority in the
other chamber, owing to intermediate elections in the different states. This
has created many ‘veto points’ in German politics, which constrain the retrench-
ment of existing social protection because de facto only a quasi all-party coalition
can rule. This casts light on the importance of ‘institutional layering’ within
Germany, where new rules are created to facilitate changes in practice
without directly seeking to abolish past practices. Third, German policy dis-
course remains bound by a normative notion of social market economy. In par-
ticular, the CDU have a socially conservative ideological commitment and have
historically supported the welfare state (Lehmbruch 2001). The CDU initiated
all the major pieces of post-war social legislation, including coal and steel co-
determination. Policies of the CDU/FDP coalition in the 1990s were a
mixture of liberalism with strong doses of fiscal transfers from West to East
and social policies to maintain employment and social standards in East
Germany – leading public budget expenditure to all-time peak levels relative
to GDP. This ideological difference in the economic worldview of ‘right’
parties seems worthy of further comparison. The Liberals (FDP) had centred
their most recent election campaign with the CDU/CSU being ‘enough
social-democratic already’.
After Unification in 1990, the political focus was on transferring existing insti-
tutions to the East. However, this extension led to many complex changes in the
practice of institutions on the ground. No major reforms were undertaken to the
main features of the German model as it existed in the West. But by the mid-
1990s, the costs of German unification were becoming apparent and created a
variety of new pressures on the existing German model. Many of these problems
related to the high costs of the welfare state, including the rising levels of
 1156 Journal of European Public Policy

unemployment. The massive transfer of money into the East had mainly been
financed on the basis of contributions levied on labour costs, so that employment
became disadvantaged through rising labour costs and created acute pressures
during the cyclical downturn after 2001.
During the period of the left SPD and Green coalition government (1998 –
2005), liberalization was more far-reaching (see Amable 2011 on the neo-liber-
alism of the left). The SPD took active measures to dismantle ‘Germany Inc.’ –
the dense network of relationships among large banks and industrial companies,
either by cross-holdings of shares or non-bank shares held by banks. The ‘power
of banks’ and ‘failure over control and oversight’ debates have a long history;
they resurfaced amidst public outcry over scandals at Metallgesellschaft, Klöck-
ner – Humboldt– Deutz, and Schneider real estate in the mid-1990s. These
debates turned disaffection with control and oversight failures, ascribed to
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uncritical and cosy personal networks, into an interest in Anglo-American cor-

porate governance through stock markets, dispersed ownership, influence of
network outsiders and concern with unambiguous profitability. The IT-
related stock market bubble was an important factor influencing the left-
coalition to support a more active role for the stock market. This ‘party
paradox’ saw the left party SPD seek to tame big business by encouraging the
dissolution of inter-corporate linkages, as well as align themselves with players
in financial markets who stood to gain from more market competition, and
garner an image of being a modern and economics-focused party (Cioffi and
Höpner 2006). But as banks already underwent strategic re-orientation
toward international financial markets, politics may have speeded institutional
change rather than causing it. Ironically, an SPD chancellor placed his faith
in the capacity of shareholder value capitalism to generate increasing public
revenue, just at the moment before the first major bubble, in dotcom enter-
prises, burst in 2002.
Meanwhile, the SPD –Green coalition aggressively cut welfare state supports
in 2002 as a way of tackling unemployment and preventing a financial collapse
of the public sector. The manner of these reforms and parallel tax cuts for cor-
porations and high-income earners led to massive voter disaffection and absten-
tion on the left, and a fall from grace of the SPD which has still not been
reversed. To some extent this evolution was particular to Germany, involving
unification problems and specific challenges of the national/Länder competen-
cies mix. The more general international conundrum relates to placing hopes on
government revenue and employment from sources exposed to the volatility of
financial markets – such as dotcom industries, shareholder value policies and
international financial markets. As in some Southern European countries,
major instigators of neoliberal reforms were social democratic governments
The subsequent ‘grand’ coalition of CDU and SPD (2006 – 2009) was
characterized by more modest reforms. The advent of the 2008 financial
crisis led to renewed interest in regulation and new rules of executive pay,
which if anything suggest some swing back toward a more stakeholder-oriented
model. The subsequent CDU and FDP coalition (from 2009) consolidated a
 G. Jackson & A. Sorge: The trajectory of institutional change in Germany, 1979–2009 1157

path of relative stability in the core features of the German model, albeit along a
path of public austerity. No major liberalization of labour markets has occurred,
even despite an initiative by the Liberals (FDP) to throw out parity represen-
tation in large corporations, as something that was internationally not the
state of the art.
In sum, party politics has mattered for the dynamics of institutional reform in
Germany, but not in the expected division between centre-left and centre-right.
Germany has lacked radical forms of neoliberal policies on the right coalition,
whereas the ‘new left’ has promoted market liberalization not unlike New
Labour in the UK. The political institutions of federalism and consensus-
driven coalition governments have played an important role in slowing
reform, whereas the EU-level directives have speeded liberalization. Similarly,
large firms and banks have different preferences regarding liberalization,
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leading to a push –pull of varied policy preferences.

3.3. Institutional complementarities

Legal reforms to financial system and corporate governance were more far-
reaching than in training or employment relations. Financial market liberaliza-
tion started in the early 1990s, but culminated at a critical juncture around
1998. Thus, an important aspect of understanding the micro level of insti-
tutional change in Germany concerns the dynamics of how changes toward
market-oriented finance and shareholder-value corporate governance influenced
the dynamics of employment and skill formation. Theories of complementari-
ties posit that ‘patient capital’ provided by German banks and concentrated
shareholding played a key role in stabilizing the long-term commitments to
employees and co-ordination with other stakeholders.
Indeed, changes in corporate finance have influenced employment or indus-
trial relations institutions. First, dispersed ownership by foreign and insti-
tutional investors is associated with higher dividend ratios, and lower levels of
employment (Beyer and Hassel 2002). Stock options for top managers have
also become widespread and led to increasing inequality in terms of salaries,
despite stakeholder opposition or recent attempts to link these incentives to sus-
tainable business practices (Chizema 2010, Sanders and Tuschke 2006).
Second, large firms have engaged in corporate downsizing since the 1990s,
achieved largely through welfare state supported ‘benevolent’ methods such as
early retirement, rather than lay-offs (Jackson 2005). Liberalization supported
the creation of complex subsidiary structures, allowing firms to strategically
place work outside of core workplaces governed by social partnership (Casey
et al. 2012). An excellent example is the field of telecommunications, where cor-
porate restructuring has led to low collective bargaining coverage and the cre-
ation of low-paid call centre work (Doellgast 2012, Sako and Jackson 2006).
Third, shareholder-value management is strongly associated with adoption of
performance-based pay schemes linking salaries to business and/or individual
performance (Jackson 2005). The new layer of pay schemes represents a
 1158 Journal of European Public Policy

controlled but de facto decentralization of collective bargaining. Last, works

councils have continued to exercise voice in restructuring decisions, but also
lead participation to be closer to ‘co-management’ that emphasizes the co-oper-
ative character of German co-determination (Höpner 2001). Taken together,
these changes show the problem of a shrinking core of employees enjoying
strong employment security and participation. But these changes are also
shaped by a longer-term institutional continuity – the basic normative
basic consensus among top managers regarding employee co-determination
and legitimate role of labour in having a voice over these changes (Höpner
and Waclawczyk 2012).
Labour market and welfare state reforms also had interdependent effects.
Union density declined from near 35 per cent after unification to around 18
per cent in 2008. Meanwhile, inequality increased dramatically among low
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wage earners. The 1980s saw a compression between low-income households

and the median. However, this trend reversed with the ratio of median earnings
to the bottom 10 per cent increasing from 1.71 in 1996 to 1.92 in 2008 – thus
putting Germany in between the UK (1.82 ratio) and the United States of
America (USA) (2.11 ratio). Real wage growth has been zero or negative over
the last decade, and wages in the growing service sector lag far behind manufac-
turing. Consequently, the labour share of national income has fallen from
around 75 per cent in 1980 to around 65 per cent in 2008, which is similar
to the USA. Welfare state retrenchment and emphasis on activation policies
has reinforced these trends by pushing people off social insurance benefits
into atypical forms of employment. Part-time employment increased from
around 11 per cent in the early 1990s to 22 per cent in 2008. Between 1998
and 2008, the growth of regular employment has been negative, whereas atypi-
cal employment including fixed-term, part-time and mini-jobs increased by 46
per cent to around 7.7 million persons. Perhaps paradoxically, these changes
have kept wage and non-wage labour costs low in German manufacturing,
while increasing flexibility for firms. The result of liberalization has not been
to undermine co-ordination in core manufacturing sectors, so much as promot-
ing growing fragmentation of conditions between different categories of
workers, as well as across sectors and types of firms.

3.4. Diffusion, adaptation and avoidance

At the micro-level, firms have faced a number of new and sometimes contradic-
tory pressures. Newer institutional logics of shareholder-value were layered onto
older logics, such as employee codetermination in decision-making. Many new
practices and institutional rules have spread through the diffusion of such con-
cepts through EU regulation, private governance codes, or through the interna-
tionalization of firms themselves. For example, in response to foreign
institutional investors, German companies rapidly set up investor relations
departments to communicate with investors during the 1990s. The case of
Daimler is illustrative. The company was a pioneer in adopting international
 G. Jackson & A. Sorge: The trajectory of institutional change in Germany, 1979–2009 1159

accounting standards, listing shares on the New York Stock Exchange, and even-
tually merged with Chrysler. The merger led to the adoption of international or
American levels and methods of executive compensation.3 While other compa-
nies did not adopt such high levels of pay, stock options and related pay prac-
tices diffused widely in Germany (Chizema 2010). These practices have
remained controversial, and undergone reform toward more transparent and
sustainability-focused criteria following legal reforms in 2009 – a prime
example of how institutional innovations become adapted to local settings,
embodying both change and continuity to a certain degree.
Another firm-level dynamic concerns the avoidance of institutions. The pos-
sibilities of moving production abroad and declining coverage of industrial
relations institutions in Germany have opened up new social spaces for firms
to avoid certain types of institutions. While labour law and welfare state
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reforms were not intended to dismantle existing institutions, some firms have
used newfound flexibility in a strategic way for institutional avoidance (Oliver
1991). For example, before their 2012 bankruptcy, the drugstore chain
Schlecker had founded their own temporary work agency, laying off workers
and rehiring them at substantially reduced levels of wages and benefits –
prompting a major scandal in 2010. Temporary and agency labour are less
likely to be covered by collective agreements or often have agreements with sub-
stantially lower wages. Likewise, subcontracting methods are widely used to cir-
cumvent these wage agreements.4 This trend toward institutional avoidance has
prompted a widespread debate over a statutory minimum wage in Germany. A
second and very different example of institutional erosion relates to vocational
training. Here the problem of increasing youth unemployment is related to
school education deficiencies, notably for youths from migrant backgrounds
and the declining capacity of the system to smooth the progression from second-
ary education to apprenticeship. A distinctive set of challenges arise relative to
underdeveloped human resources and underutilized apprenticeship training
capacities. As might be expected in a system with a high amount of statutory
and collective bargaining regulation and price-setting, the segmentation of
labour market situations continues to be strong and it has been fuelled by inter-
nationalization.

4. CONCLUSIONS
Comparative studies of capitalism all imply a specific institutional logic of
action inherent to a type of national system. This logic is constituted by com-
plementarities or elective affinities, where a characteristic along one dimension
(such as industrial relations) will be interdependent with a set of characteristics
along other societal domains, such as company finance. On the one hand, com-
plementarities suggest that a major change, such as the international diffusion of
shareholder value orientations, will change other institutions in a similar direc-
tion along other dimensions. In cases where change amounts to market liberal-
ization of corporate governance and finance, shifts towards corresponding
 1160 Journal of European Public Policy

features along other dimensions would in effect boil down to convergence. On

the other hand, institutional complementarities have been used to argue that
institutional systems are path dependent and characterized by strong inertia
(Hall and Soskice 2001). Path dependency thus argues against institutional con-
vergence.
Institutional scholars have not been united or consistent in their stance vis-à-
vis convergence or divergence (Hall and Thelen 2009). Many cross-sectional
comparative studies suggest persistent differences and more-or-less stable clus-
tering of countries over time (Jackson and Deeg 2012). Inter-temporal
studies, such as this one, show a more complex picture of both continuity
and change. In Germany, changes in finance, the emergence of shareholder-
value management styles, declining coverage of collective bargaining and
certain educational reforms all point towards a type of convergence. But
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within this broad trend toward more liberal and market-oriented institutions
we observe substantial continuities and thus also divergence across countries.
While shareholder-value capitalism has made major inroads into publicly
quoted enterprises, the climate of industrial relations has retained strong
element of co-operation. Employee representatives on supervisory boards have
smoothed this development, rather than being crushed by it. Employers and
politicians have moved to scale down co-determination in large enterprises,
but have not succeeded despite the governing CDU/FDP coalition. A new
exchange for small joint-stock companies (Neuer Markt) was established but
subsequently crumbled again. Industry-level collective bargaining has very
much come under pressure, but nevertheless the co-ordination and solidarity
in wage negotiations helped maintain unit labour productivity and the compe-
titiveness of enterprises.
Much political economy literature on institutions has been side-tracked by
this half-full or half-empty debate about change, rather than developing histori-
cal analysis of how continuity and change condition one another (Streeck 2010).
To this aim, we note that Whitley (2007) distinguishes ‘proximate institutions’
as specific, normative and tangible norms governing economic action in a par-
ticular domain and ‘background institutions’ as more fundamental and less
specific and formalized (e.g., general assumptions about trust or distrust, co-
operation or competition, as applying to roughly circumscribed situations). A
similar distinction can be made between the ‘ostensive’ and the ‘performative’
aspects of behavioural routines, or between the ‘etic’ and the ‘emic’ aspects of
institutions. Such concepts distinguish between tangible norms and regularities
taken at ‘face value’, i.e., what norms literally say or are taken to mean in a
decontextualized understanding, and the meaning implied in specific societal
contexts, wherein deeper levels of knowledge, understanding and shared
values operate.
This distinction helps view institutional continuity as subject to the dialectics
between concrete, specific and tangible ‘proximate institutions’ at the surface
of the institutional landscape, and ‘background institutions’ at deeper levels.
Although tangible institutions are continuously remodelled, the bedrock
 G. Jackson & A. Sorge: The trajectory of institutional change in Germany, 1979–2009 1161

of more inert institutional continuity shapes the direction and precise content of
institutional change. In this sense, a ‘metatradition’ (Sorge 2005) of insti-
tutional continuity exists that in no way contradicts the observation of substan-
tial institutional change. As Stark and Bruszt (1998) argue, even radical
institutional change always involves a recombination of the ‘new’ with the
‘old’ institutions in creative, original and often surprising ways. We add to
this that ‘new’ proximate institutions tend to be complemented by and amalga-
mated with a different kind of institutional innovation that draws on resources
and capacities embodied by ‘old’ institutions. For example, the German code of
corporate governance promoted a new view of governance in line with the UK
approach, OECD recommendations and EU regulation through new norms
based in soft law (‘comply or explain’), but simultaneously sought to explain
the difference between unassailable obligations found in German legal norms
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and more optional recommendations to an audience of foreign investors.

That is, new institutional rules are interpreted within a collective memory of
background institutions and bear regard to specific contingencies in economic,
political and social opportunities and constraints. Whereas path dependency
combines those specific contingencies with background institutions, insti-
tutional change is built on institutional imports, institutional avoidance and
addressing acute deficiencies of the time, in proximate institutions.
A more fine-grained analysis of institutional change mainly points to three
dynamics having different effects with regard to institutional convergence and
divergence across countries or between diffusing global practices and local insti-
tutions:
(1) Some international trends stemming from supranational government (such as
the EU) or quasi-government (such as the normative importance of US stock
exchanges, the OECD or the International Accounting Standards organization)
clearly produce a certain amount of convergence. In their content, these insti-
tutional rules are mostly of a market-liberalizing variety most visible in new
codes of practice and international regulation coming out of supranational
bodies or transnational associations.
(2) The socio-political situation of each country creates differentiated contingencies
and temporalities that shape institutional change. This effect works towards
divergence-within-convergence. The German case suggests that political contin-
gencies cannot be read directly off the dominance of left or right political
parties, or formal rules of the political system. Which formal rules are
adopted and how these are enacted requires looking at historically processes.
(3) Inertial bedrock of background institutions (i.e., basic structures, beliefs and
habitualized dispositions) is often invoked by collective actors as a resource
and applied to deal with change coming from the international scene and affect-
ing significant change in proximate institutions. This dynamic asserts the speci-
ficity, or divergence, of proximate institutions.
It is now possible to differentiate examples for such effects, depending on
the relative strength of international regulation or other standards, specific
contingencies and temporalities governing the ‘import’ of standards, and the
 1162 Journal of European Public Policy

meta-tradition of background institutions that shape the interpretation and

application of new standards.
Corporate governance probably shows the clearest convergence effects in
Germany, notably in financial and accounting standards, in the dissolving of
share cross-ownership, and in the taking-on-board of EU directives or other
international rules on takeovers, financial markets and corporate governance.
Here, international laws and standards had the most direct impact. On the
other hand, existing institutions of co-determination have also proved to be resi-
lient and strongly shaped how these imported practices are framed and under-
stood in practice.
The second effect, of divergence within convergence, is exemplified by the
increase in enterprise-level bargaining and declining union strength,
together with the renewed harnessing of collective bargaining in the interest
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of both enterprise competitiveness and socio-political aspirations. Distinc-

tive contingencies for Germany are visible: Unification led to problems of
industrial wage bargaining and competitiveness in view of rapidly rising
wage and non-wage labour costs; the subsequent effect of this crisis was to
alert the social partners and governments to non-wage labour costs and
bring back wage restraint in ways that adhered to past, tacitly observed stan-
dards.
The third effect, the assertion of institutional continuities, is visible, for
example, in adherence to co-determination despite political pressures and
reduced union strength, in the disappearance of the Neuer Markt after its
initial success, and in the renaissance of wage restraint in aid of competitiveness,
export performance and limiting the public sector financial burden.

Biographical notes: Gregory Jackson is Professor of Human Resource Manage-

ment and Labour Politics at the Free University of Berlin, Germany. Arndt
Sorge is an honorary professor in the Faculty of Economic and Social Sciences,
University of Potsdam, Germany.

Address for correspondence: Gregory Jackson, Institute of Management,

Freie Universität Berlin, Boltzmannstr 20, 14165 Berlin, Germany. email:
[email protected]/Arndt Sorge, Seestr. 32, 15738 Zeuthen,
Germany. email: [email protected]

ACKNOWLEDGEMENTS
The research leading to these results has received funding from the European
Community’s Seventh Framework Programme (FP7/2007-2011) under grant
agreement number 225349 (ICaTSEM project). The authors would like to
thank Tim Müllenborn, Nikolas Rathert, and Jasmin Zazei for research assist-
ance on this project. They also thank the Journal of European Public Policy refer-
ees for their constructive comments.
 G. Jackson & A. Sorge: The trajectory of institutional change in Germany, 1979–2009 1163

NOTES
1 For example, US-style ‘poison pills’ found under Delaware law are impossible in
Germany, since issuing discounted shares is incompatible with the equal treatment
of shareholders under the EU directive and pre-emptive rights under German law.
The board may issue authorized share capital to existing shareholders up to a
maximum 50 per cent of capital. Similarly, court decisions (the Holzmüller doctrine)
have led to requiring shareholder approval for substantial (.80 per cent) acquisitions
or asset disposals.
2 One might speculate that the ingrained propensity to use robust statutory tools for
the functional and social integration of larger enterprises made German enterprises
go for the SE option, whereas owners and management from other countries feel
more comfortable in the ‘cash nexus’ and the arms’-length relations, by way of
capital share ownership, that govern relations between enterprises even when they
belong to the same group.
3 The Daimler – Chrysler merger ultimately failed, and Daimler management moved
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away from their strong shareholder-value focus following the departure of CEO
Jürgen Schrempp in 2005.
4 Die Zeit online, available at http://www.zeit.de/politik/deutschland/2011-08/
lohndumping-leiharbeit (accessed 14 Jun 2012).

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APPENDIX
(See over)
 1166
Journal of European Public Policy
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Table A1 The trajectory of institutional change in Germany, selected domains

Institutional Timing of
domain Typology Direction of change and examples of major reforms major reforms

Financial Bank-oriented  both Shift toward market finance 1990s

systems banks and markets † Deregulation of equity markets
† Implementation of EU directives on transparency,
etc.
Corporate Stakeholder-oriented  Shift toward outsider, shareholder-oriented model 1998– 2002
governance some elements of † Liberalizing stock options
shareholder value † Voting rights reform
† Change in takeover rules
‘Hybrid model’ – two-tier board and employee
codetermination remain
Industrial Corporatism  increasing Some flexibilization of labour market for small firms 2001, 2003
relations segmentation and lower skill employees, but some element of
social protection
† Liberalization of employment protection in SMEs
(although partially reversed in 1998)
† Minimum wage in construction industry (1996)
† Works Constitution Act modernizes works council
procedures for SMEs and non-standard work
arrangements (2001)
† ‘Job centres’ introduced (2003)
 G. Jackson & A. Sorge: The trajectory of institutional change in Germany, 1979–2009
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Education and Associational governance Some greater role of the state 1990, 2000
skill creation of apprenticeship † Greater public role in apprenticeship system
† Policies for low skill workers
Welfare state Conservative  limited † Hartz Reforms (shortening length of 2002–2003
introduction of market unemployment benefits) unemployment,2000 and
elements, some † More employment activation policies 2006 pensions;, 2003
retrenchment † Limited and incremental expansion of private health
pensions
But limited influence on pension system, health
system

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