The Captain asked, why the German government relied on taxes to finance the improvement of East German economy, instead of letting private investments do the job. Here is my answer:
Well, no, private investment wouldn’t have come in. The unification already ruined the Eastern German economy because of several political decisions.
Firstly, because it was decided that Eastern Germany had to reach at least 70% of the averag wage level of Western Germany in order to prevent massive migration to the Western states. During 1990 and 1991, before this measure was implemented, an estimated 1 to 2 milion East Germans moved to West Germany. East Germany’s population in 1989 was 17 million. So, unions and employers’ organizations were ordered to accepted only wages above the aforementioned level, creating massive unemployment overnight. But, not suprisingly, mass migration stopped thereafter.
Secondly, the laws of Western Germany became also the laws of Eastern states, thereby adopting the same inflexible labor market (labor protection, high unemployment benefits) in those states. High unemployment benefits were necessary to hold the unemployment in Eastern Germany, that is, to prevent them from coming to West Germany in order to look for jobs.
Third, all major infrastructure investment like roads, electricity, railroads, water supply, and telecommunication, were, and still mostly are, government investments, i.e. those things are state-owned and private competition isn’t allowed.
Last, but not least, when they introduced the Western Mark, they set the exchange rate at 1, which was a symbolic act, because the real traded rate was at 6 or 10 Eastern Mark for Western Mark. This led to a massive overvaluation of East German goods and services, effectively rendering them uncompetitive.
Did you know that Eastern Germany received a third of its GDP as subsidies from Western Germany in the first years after reunification? Interestly, somehow politicians have lost the count on how much money was transferred until now. Estimates range between €250 billion to €1.5 trillion. The latter number would equal Germany’s total public debt as of 2009.