The situation on the Korean Peninsula entered a new phase following the 2018 Winter Olympics, further evolving through the April 27 inter-Korean summit and June 12 Singapore summit between the U.S. and North Korea. Expectations are high for new exchanges and cooperation that would potentially lead to peace and prosperity on the Korean Peninsula. This would be a great chance to depart from hostility that has lasted over decades. However, it is expected to take some time until economic cooperation between the two Koreas resumes, as the negotiations for denuclearization still remain unresolved.
   The Korea Institute for International Economic Policy (KIEP) has been working with the Halle Institute for Economic Research in Germany (IWH) on topics related to the economic integration of the two Germanys after unification. This is the second report published by the joint research team. The report consists of eight chapters under the three major themes of macroeconomic impacts and socio-economic changes following unification, policies implemented to improve East Germany’s economic structure, and East Germany’s industrial policies. Chapter 1 provides a summary of the entire report’s contents and describes how they are interconnected.
   Chapters 2 through 5 describe macroeconomic consequences immediately after reunification and the subsequent socioeconomic changes. Here, Dr. Axel Lindner of the Halle Institute for Economic Research (IWH) argues that although many macroeconomic indicators temporarily deteriorated after unification, such as the ratio of investment to GDP and the fiscal deficit, they recovered after a few years. While real GDP growth appears to have damaged the growth potential of the German economy for a certain period of time, he stressed that the time frame was not long and that the benefits of reunification were significant after the early 2000s. In Chapter 3, Dr. Kim Young-chan and Dr. Yoon Deok Ryong pointed out that macroeconomic instability can be a major issue in the early stage of economic integration in the case of a unified Korea, which can be much bigger than that of East and West Germany. The two researchers highlight that in order to minimize post-unification economic impacts, efforts to converge the gap of productivities and develop measures for macroeconomic stability are needed. They also stress the need for integration in terms of social integration, assistance for rapid economic development and job creation in North Korea, expansion of daily exchanges and opportunities to interact, and preparation of institutional devices to represent its interests.
   Chapters 4 and 5 are studies of policies to improve the structure of the East German economy. In Chapter 4, Dr. Jeong Hyung-gon drew policies for economic development in East Germany and implications for the Korean Peninsula after reunification. In this study, Dr. Jeong Hyung-gon constructed panel data on total regional production (GRDP) in Germany from 1991 to 2015, gross regional production per capita, nominal income, household income per capita, support for infrastructure and support to companies. During the analysis period, support for infrastructure projects totaled approximately 23.6 billion euros, while support for enterprises came to a total of 46.5 billion euros. As a result, the total support amount was approximately 70.1 billion euros, among which 62.1 billion euros were provided to the East German region, meaning 89 percent of the total support amount was concentrated in the East German region. The GRDP in all five regions of the world has more than doubled from 1991 to 2015. Since unification, the New Commonwealth of Nations (East Germany) has been accompanied by structural changes such as changes in economic structure, technological improvements, and capital accumulation, and industrial structures have developed similar to those in West Germany. Despite these achievements, however, there is still a wide gap in regional development within Germany. In this study, to analyze the effects of subsidies to improve the German economy, the IWH research team analyzed the growth rate for two periods: the first program period from 2000 to 2006, and the second program period from 2007 to 2013. The results showed a positive impact on the gross value-of-value (GVA) and productivity (GVA per employment) of subsidized companies during the first program period. But during the second period from 2007 to 2013, there was no visible benefit. In this study, Dr. Jeong stresses that the Korean government needs to create a subsidy support standard that divides the country into functional regions, in the manner of Germany’s regional policies (GRW), and calculates regional comprehensive economic indicators based on them. Dr. Jeong also states that infrastructure investment to improve the regional economy is important, but in the early stage of reunification, support for individual companies should be strengthened to help them increase productivity and value added. Another suggestion is that small-scale projects to privatize North Korean companies could facilitate production activities, and that corporate restructuring can promote regional economic growth through increased efficiency in society as a whole.
   In Chapter 5, Dr. Gerhard Heimpold of IWH analyzed the policies of forming industrial cores in East Germany. In this study, he underscored the importance of seasoned corporate restructuring experts to successfully privatize companies after unification, and to apply a proper combination of spin-offs and acquisitions. He also highlights the importance of fostering R&D sections to enhance corporate competitiveness and normalize management, and create jobs for mass unemployment (skilled laborers) generated by corporate restructuring.
   Chapters 6 through 8 focus on industrial policies. Chapter 6 starts with the decision-making mechanism of the trustees, which was put in charge of privatizing the assets of East Germany. We explore whether it is beneficial to restructure state-run companies first or immediately privatize them, or bankrupt them. According to the research, the key criteria for the trustees’ decision to privatize, restructure or liquidate businesses were to conduct a feasibility analysis. In the decision-making process on restructuring or liquidation of individual companies, a panel of consultants or accountants acted as an independent advisor to the board of trustees, which collectively assessed the nature and viability of each company. Highlighting the independence of the decision-making group, Dr. Heimpold claims that close cooperation between the East German state government and labor unions played a significant role in job creation and maintaining social stability.
   In Chapter 7, Dr. Kim Young-Chan and Dr. Yoon Deok Ryong present the policy implications for the reconstruction of SMEs in East Germany after German unification. They assess that Korea’s SME support system is not inferior to Germany in terms of its experience, support schemes of taxation, finance, marketing, technological innovation, entrepreneurship and human resources, however, there are problems in terms of efficiency and effectiveness of support due to the excessive number of agencies, lack of analysis on performance, and evaluation of results. The need to simplify and evaluate the whole system has risen as this will be reflected within the North Korean support scheme once two Koreas are reunified. In addition, they claim that considerations must be made for discrepancies in perception regarding the transition process, meaning that economic development should precede when introducing a support system for the SMEs in North Korea, while acknowledging the constraints of human and material resources available. They also stress the need to establish systemic cooperation between the governments at all levels, policies, commercial and financial institutions, as well as international organizations and chambers of commerce based on an understanding of the North Korean real economy and financial system. It will also be necessary to conduct a comprehensive review of ideas to provide financial support both home and abroad and establish a risk-sharing system.
   The last section of the industrial policy, written by Dr. Han Minsoo of KIEP, focuses on the potential impact that opening the capital market and providing development assistance could have on the North Korean economy where capital markets are immature. The study showed that while opening the capital market in North Korea increases overall productivity, it does not have a significant impact on economic growth. On the other hand, carrying out development assistance policies along with the opening of the capital market can play a significant role in economic growth. He stresses that the government should use microfinance-based development aid rather than free economic aid to boost economic growth. 

Executive Summary

 
Chapter 1. Introduction

Chapter 2. German Unification: Macroeconomic Consequences for the Country
1. Introduction
2. In a Nutshell
3. A Demand Side Shock
4. Price Reactions
5. Trade and the Balance of Payments
6. The Supply Side: Production Structure,  Labor, Unemployment, and the Capital Stock
7. Distributional Effects: Labor and Capital, the State and the Private Economy
8. Conclusions

Chapter 3. Economic and Social Integration in Germany: Implications for Korea
1. Social Aspect
2. Economic Aspect (German Unification and Progress of Economic Integration)

Chapter 4. Regional Economic Growth of East German States after German Unification and its Policy Implications for Korea
1. Introduction
2. Status of Economic Development in East Germany after Unification
3. Policy for Improving Germany’s Regional Economic Structure
4. Evaluation of Joint Tasks for Improvement of Regional Economic Structure in the West Germany
5. Conclusion and Policy Implications

Chapter 5. Spatial Development Patterns in East Germany and the Policy to Maintain “Industrial Cores”
1. Introduction
2. Spatial Patterns of Manufacturing Activities in GDR – Stylized Facts
3. Spatial Patterns of Manufacturing Activities after German Unification ― An Exploration of Statistical Data
4. Policies to Maintain “Industrial Cores”
5. Five Case Studies on Industrial Cores in East Germany and their Development
6. Preliminary Conclusions

Chapter 6. Decision Making by the Treuhandanstalt on Privatization, Restructuring, or Liquidation of Former State-Owned Firms in East Germany
1. Introduction
2. The Economic Situation of State-Owned Firms Prior to the Monetary Union in July 1990
3. Rules of Privatization Policy
4. Assessment of Restructuring Feasibility
5. Involvement of the East German Federal State Governments and Trade Unions in the Course of Privatization
6. Quantitative Results and Budget of Privatization
7. Interim Conclusions

Chapter 7. Rebuilding SMEs in East German States: Policy Implications for Korea
1. Introduction
2. Policy Measures for SMEs in Eastern Germany
3. Implications for Korea

Chapter 8. A Quantitative Analysis on Development Assistance Policy for North Korea during a Transition Period
1. Introduction
2. Empirical Motivation
3. Model and Equilibrium
4. Policy Proposals 

Contributors