Regional economic development pays off: it secures employment in structurally weak areas and reduces regional inequality – at a lower cost than other policy measures such as increasing unemployment benefits. If, on the other hand, the subsidy is reduced, employment falls. This is the result of a recent study by ZEW Mannheim in cooperation with the University of Mannheim, which examines subsidies under the German policy measure to improve regional economic structures, “Verbesserung der regionalen Wirtschaftsstruktur” (GRW), from 1997 to 2017. The ZEW study is based on data from the Institute for Employment Research and the Federal Statistical Office.

Two men talking.
Regional economic development secures employment in structurally weak areas.

“We observe a decline in employment in East German regions because subsidies to companies there have decreased since the mid-1990s. These employment effects are more pronounced for workers with medium qualifications than for workers with high or low levels of education,” explains Professor Sebastian Siegloch, head of the ZEW Research Department “Social Policy and Redistribution” and one of the authors of the study. While GRW subsidies have mostly declined in recent years, the ZEW research team was able to show that an increase in subsidies, on the other hand, leads to positive employment effects.

An effect on employment is not only evident in the manufacturing industry, the sector that has primarily benefited from the subsidies. The decline in subsidy payments also leads to employment cuts in trade and in the construction industry. “For every ten jobs lost in manufacturing, about six jobs disappear in other sectors that are not directly affected,” explains Nils Wehrhöfer, co-author of the study and researcher at ZEW.
The decline of GRW subsidies also negatively affects the financial situation of municipalities. Because corporate profits are declining, municipal tax revenues are falling as well. The municipalities are trying to compensate for this through higher business and property tax rates.

“These strong indirect effects in employment and tax revenues are the main reason why regional economic development programmes tend to be more cost-effective than other measures – such as an increase in unemployment benefits or Hartz IV – to stabilise the local economy. Moreover, it shows that the GRW is also effective in reducing regional inequality and ensuring more equal living conditions in Germany,” Siegloch concludes.

On regional economic development in Germany

The GWR, a joint funding measure of the federal government and the federal states, is the main regional policy scheme for underdeveloped regions in Germany. Since 1969, it has supported companies in structurally weak areas with the aim of compensating for locational disadvantages and promoting employment in order to equalise living standards in all German regions. Whereas before 1990 the funding focused primarily on areas on the border to the former GDR, the current focus is primarily on municipalities in the new federal states. Companies that are eligible for funding are reimbursed a large part of the costs for a specific investment project, e.g. for the construction or modernisation of production facilities and buildings, but also for licences and patents.