Wage subsidies in Eastern Germany would tend to induce excessive real wage increases on account of the structure of its wage bargaining. In Discussion Paper No. 783, Programme Director Dennis Snower argues that revenue- or profit-sharing subsidies could bring the labour market close to full employment at much lower cost, since they would be devoted entirely to the achievement of the government's wage targets. They may have further advantages over wage subsidies: they do not distort the labour/capital ratio, and they may also have significant incentive effects in small enterprises where individual workers' labour inputs contribute noticeably to profits.

Output, export, credit and investment subsidies all resemble wage subsidies in tending to raise the marginal value of labour and thus the rents workers appropriate during wage bargaining. Subsidies adequate to ensure full employment will therefore raise real wages well in excess of government targets.

Snower notes that many of the criticisms levelled against establishing profit- or revenue-sharing schemes in mature market economies lose much of their force for economies in transition. Managers may have substantial incentives to resist switching to profit- or revenue-sharing, which obliges them to reveal information on revenues to employees; `insiders' may also resist such change if they can achieve higher remuneration under the status quo. Such resistance will be most pronounced in firms that have operated under a wage system in the past and whose work forces contain large proportions of insiders, but in Eastern Germany as in other East European economies shifts in final demand have been so large that establishing revenue-sharing would destroy most old firms and create many new ones. Most jobs under such a system would therefore not involve either switching or revising insiders' contracts and would thus avoid conflicts with such vested interests. Snower concludes that revenue-sharing subsidies deserve much more attention in the policy debate over how to stimulate employment in Eastern Germany and elsewhere in the region.

Revenue-sharing Subsidies as Employment Policy: Reducing the Cost of Stimulating East German Employment
Dennis J Snower

Discussion Paper No. 783, April 1993 (HR)