The rise of the German model

Julian Coman in Bestwig, North Rhine-Westphalia

Bayern Munich deservedly won the Uefa Champions League, beating national rivals Borussia Dormund in the final at Wembley in a game that symbolised Germany's new ascendancy. Photograph: Friso Gentsch/Corbis

Sitting in his brightly lit office overlooking the green hills of rural Westphalia, surrounded by photographs of aluminium and titanium castings, Phillip Schack has drawn a blue triangle on a piece of paper. Pointing to a small shaded section at its apex, he says: "Look. If that's your market, up at the top, high-quality end, then you're well protected from global competition. It's only if you're down here," he adds, pointing to the triangle's much wider base, "that globalisation is a threat. So we need to take care of our triangle."

Schack is managing director of Tital, a leading manufacturer of precision parts for aeroplanes and racing cars. In the corridors and workshops of this company, which employs 520 people in Bestwig, a town of 11,000 near Dortmund, the crisis of the last five years has not been a subject of anguished internal debate.

Exports around the world have increased by 50% over the last decade, as the market for high-class titanium products booms. Revenue is up. Apprentices are being taken on. A new plant for small aluminium castings has just been opened in the Chinese town of Nantong, near Shanghai. Times may be hard, but the company is thriving at the top end of Schack's triangle of prosperity.

What goes for Tital goes for Germany. As the rest of the eurozone – along with Britain – labours under the yoke of austerity, Germany has been basking in the glow of international success. A week ago, Bayern Munich, a supporter-owned football giant, deservedly won the biggest prize in club football, the Uefa Champions League, beating national rivals Borussia Dortmund in the final. England's debt-laden heavyweights and their foreign owners were placed firmly in the shade.

Then there is Volkswagen, which reported a $15bn (£9.8bn) profit for 2012, making it the most profitable car manufacturer in the world, ahead of Toyota and General Motors. The new VW Golf also won "world car of the year" at the New York motor show in March – not a bad way to celebrate the company's 75th anniversary.

The list of reasons for Germans to be cheerful goes on: wages are rising while those in the rest of Europe and America stagnate; economic growth, though affected by the crisis, continues; and unemployment is half that in neighbouring France. In a depressed, recession-haunted eurozone, Germany is the last economy left standing, following the hurricane of the debt crisis. And in flatlining Britain, where the search for sustainable economic growth has become the question of the age, the alluring calls of the German model have become deafening. Even George Osborne, who tends to look to America for economic inspiration, told a group of Manchester businessman that companies such as Tital "are the envy of the world".

For a country described as "the new sick man of Europe" in the late 1990s, Germany appears to have made a superhuman recovery. Where did it all go right?

According to Wolfgang Streeck, the director of Cologne's Max Planck Institute for the Study of Societies, Germany's golden moment is the vindication of a different way of doing things, one that has as much to do with history and culture as economic theory. "In the 1980s and 1990s," said Streeck, "when America took off in the direction of the dotcom boom, Germany remained a manufacturing economy, true to its artisanal roots. That was strongly criticised at the time. There were lots of commentators – the Economist, for instance – who said that the country had been left behind, that it had become old-fashioned. Worse, Germany's economy was highly regulated. Power was locally held. Employers had obligations to their workforce and the local community. Wages were high and workers had the right to influence decisions and sit on boards. In countries like Britain and America, that way of organising things was seen as a kind of death sentence for the economy."

Instead, Streeck says, this much mocked business environment proved a blessing in disguise, as Germany's firms proved more supple and cunning than critics had imagined. "The constraints eventually proved beneficial," Streeck continues. "Firms accepted the challenge and got ahead by improving and innovating, particularly in the global market, focusing on quality not price. Managers managed better. VW, in relative terms, was low-tech in the 1970s. Now its Wolfsburg plant is one of the most sophisticated in the world."

In the early 2000s, the Wolfsburg workforce also played its part, as Germany struggled with the legacy of reunification. When VW threatened to transfer the production of new cars to cheaper locations such as Portugal, new flexible hours and pay were negotiated with the IG Metall union, along with performance targets and training schemes. The then chancellor, Gerhard Schröder, praised the 2001 deal as "groundbreaking", urging other industries "to follow the example of VW and IG Metall to create new jobs in Germany". Labour market reforms, negotiated between employers and unions, followed across German industries. They have been enthusiastically embraced by Schröder's centre-right successor, Angela Merkel.

Meanwhile, in hundreds of small towns like Bestwig, a remarkable success story with global implications was taking place. Germany has long treasured what it calls its "Mittelstand" businesses, the small- to medium-sized enterprises that are often family-owned, typically have up to 500 employees and specialise in high-quality niche products. When the film-maker Edgar Reitz made Heimat, his acclaimed epic of German life in the 20th century, the postwar economic recovery was symbolised by a fictional family optics firm, set up in the heart of the Rhineland. Over the last 10 years, as competition from cheap labour abroad has placed a premium on innovation, skill and high quality, the real-life Mittelstand has never had it so good.

Tital, founded by two local families in 1974, has made itself indispensable to its clients through a patented casting process that uses a unique cooling liquid. "It's our Coca-Cola," jokes Schack. In total, Germany's Mittelstand companies own an astonishing 499,525 such patents. These innovators also employ more than 70% of the country's workforce, provide 83% of Germany's apprenticeships and have links to communities that go back generations. Sennheiser, an audio equipment manufacturer that provided the sound for last month's Eurovision Song Contest, is still located a stone's throw from the house of Fritz Sennheiser, who founded the company 65 years ago.

It is the stability of those links – with schools, banks, businesses and the wider community – that gives companies such as Tital and Sennheiser a competitive edge. Tital gets its finance from the investment arm of the local co-operative bank, which is prepared to give its strategies time and space. From the schools in Bestwig and the surrounding area, the company takes 18 apprentices each year. It pays a grant to allow the more able to go to university, on condition they come back to work at the company. For the less academic, an in-house supplementary education is provided. Schack himself teaches the new recruits a voluntary politics and economics course.

"Each year we take two apprentices who have not really got the qualifications needed," he said. "We give them a broad training and they work really hard because they are happy to be given the chance. And they stay loyal to the company, as do the graduates who come back after we've helped with their higher education. So what's good for the community and good for our reputation is also good for the firm." Compared to Britain's Work Programme, it's a different world.

Tital also has a works council with power and influence over company strategy, including one full-time paid organiser. The system works because the cultivation of an engaged and committed workforce, says Schack, is fundamental to the company's future. "We depend on innovation coming through from production level. We need continuous improvement and collective ideas; employees who think as they work. The system functions because we need to be up there at the quality end of the market. So we pay top dollar because we need to compete at that level, and that gives us the luxury of having this consensual way of acting."

Companies such as Tital, Sennheiser and Lunor – a six-person manufacturer of high-end spectacles now sold in unfeasible quantities to South Korea – resemble Britain's indie bands in their 1980s pomp. They are distinctive, niche and promoted by small-scale but sympathetic financial backers. And life at the industrial "supergroups" is just as harmonious. Last week, as wage freezes and reductions continued across the rest of Europe, a substantial pay increase was agreed on behalf of 97,000 Volkswagen workers by IG Metall. Public sector workers are also set to receive a big increase.

Even for the most seasoned of economic observers, it is a reversal of fortunes that takes the breath away. In the last years of the 1990s, all the buzzing talk was of Silicon Valley and America's technology boom. In Britain, light-touch financial regulation under New Labour created superbanks capable of generating wealth on an industrial scale, but industry itself received little attention at Westminster. Germany struggled. Then came Northern Rock, a near financial meltdown and the fallout from a City-inspired long boom that had been sustained by debt. "The crisis changed everything in Europe and America," says Streeck. "The credit-based pseudo-prosperity had come to an end. And at that moment, it was the Germans who had things to sell that the others didn't."

So what can Britain learn from this sobering turning of the tables? At a London School of Economics debate last month, the Labour peer Maurice Glasman debated with the Conservative education minister, Michael Gove, on the subject of "One Nation Britain", Ed Miliband's big idea. Glasman believes that if it is to become a reality, places such as Birmingham must look a lot more like Braunschweig. Labour needs definitively to move on from the starry-eyed embrace of financial markets that characterised the Blair years, and focus on the unglamorous, steady localism of capitalism, German-style.

"Germany won," said Glasman at the debate. "We have a Champions League final between two supporter-owned and democratically governed football clubs. Tradition and the preservation of institutional virtue are a source of energy and modernisation precisely because change and continuity work together; a balance of power is the best system; a negotiated settlement is better than one that is imposed, the domination of any interest violates the demand of what is good; the discovery of the common good between forces that are estranged is the best good of all. It takes longer to get there but the benefits are more enduring."

Lord Sainsbury, a former Labour minister and author of a just-published book entitled Progressive Capitalism, is less sure. "I don't think you should try to copy countries that have a different kind of capitalism," he told the Observer. "In terms of industrial democracy, for example, the role of trade associations and trade unions in Germany cannot be replicated in the UK. In German business negotiations, if employers or employees are being unreasonable, then their own umbrella body intervenes and makes sure a consensus is reached. Trade unions and trade associations can deliver for their members, which they can't in Britain. America is the more relevant comparison for Britain."

The view from Streeck's office in Cologne is similarly pessimistic, on cultural as well as economic grounds. "It's very difficult to reproduce Germany in England," he said. "Here there is still a considerable respect for the engineer, the maker of things. There is still a cultural link back to the old artisanal pride in Handwerk, or craftsmanship. In England, early unlimited competition wiped so many of those firms out. Britain needs to look at the spirit of German institutions maybe, but then work out how that spirit can be translated into a different world."

The German love of engineering was vividly on display last Thursday afternoon, as hundreds of visitors spent a bank holiday at Wolfsburg's Auto City, a lavish monument to the native car industry. Willy Schlüter, from Bielefeld, was there with his family. As his children tried out a Beetle cabriolet for size, he explained: "We had an Opel for a while. But now we've got a VW Touran." The cabriolet would be nice, but it wasn't a family vehicle.

Would he ever consider buying a foreign car? Too polite to say no, Schlüter gave a slightly apologetic smile. After decades of industrial neglect and regional decline, Britain, whatever the aspirations of Ed Miliband, has a long way to go before such popular pride in homegrown products goes without saying.

For the time being, incontrovertibly, Germany rules.

Winning ways

Sport: The first all-German Uefa Champions League final at Wembley last weekend was a source of huge national pride. But Bayern Munich's match against Dortmund was also a triumph for a distinctive way of running football teams. Both clubs are mainly owned by their members. Germany's Bundesliga has the lowest ticket prices of Europe's major leagues and attracts the highest attendances.

Industry: Wolfsburg, the 'car city' that is home to Volkswagen, has enjoyed a year of celebration. In March, the new VW Golf was named 'world car of the year'. This summer, the city marks the 75th anniversary of its founding. Car workers have also just been awarded a 5.6% pay rise. After a rocky period in the early 2000s, Germany's car industry is back on track, with VW its most profitable brand.

Small business: Denmark's Emmelie de Forest triumphed at the Eurovision song contest but Hanover company Sennheiser won the battle to provide the mics and sound equipment. German small businesses, often family-owned, have become market leaders in lucrative niche markets. They employ 70% of Germany's workforce and play a major role in providing apprentice places for the next generation.

Union influence: Trade unions have played a crucial role in Germany's recent success. From works councils to representatives on boards, employees are readily granted power and influence in companies. In smaller enterprises, this has led to high levels of commitment and loyalty. In huge concerns such as VW, unions including IG Metall have negotiated pay cuts as well as pay rises.

Politics: The German chancellor, Angela Merkel, has been the dominant figure in European politics since the banking crisis struck in 2008, quickly followed by a crisis of sovereign debt. Her solution – swingeing austerity for much of the eurozone – has been highly unpopular in southern Europe and France. But most German voters back her stance and she is likely to be re-elected in October./Guardian