The paper assesses current trajectories of change in the German system of industrial relations by analysing the co-determination and collective bargaining systems. It argues that two parallel developments undermine the institutional stability of the German model. First, the institutional base of the German industrial relations system, which has served as the precondition of its past success, has been shrinking during the last two decades. This is due to a decline in coverage by the two major industrial relations institutions: the works council system and wage agreements. Today fewer than 15 per cent of German plants are covered by both a valid collective agreement and a works council. Second, increasing decentralization pressures within collective bargaining tend to undermine the division of labour between co-determination and collective bargaining. The dynamics of an institutional erosion of the German industrial relations institutions and the decentralization of collective bargaining disturbs the ®ne-tuning of the mediating process between macroeconomic steering capacity and co-operative workplace industrial relations. This tendency has been aggravated by the effects of German uni®cation. The current institutional developments of the German industrial relations system leave serious doubts about the future of a successful model of co-operative modernization.

What do the recent trends in German economic development convey about the trajectory of change? Has liberalization prepared the German economy to deal with new challenges? What effects will liberalization have on the co‐ordinating capacities of economic institutions? This article argues that co‐ordination and liberalization are two sides of the same coin in the process of corporate restructuring in the face of economic shocks. Firms seek labour co‐operation in the face of tighter competitive pressures and exploit institutional advantages of co‐ordination. However, tighter co‐operation with core workers sharpened insider–outsider divisions and were built upon service sector cost cutting through liberalization. The combination of plant‐level restructuring and social policy change forms a trajectory of institutional adjustment of forming complementary economic segments which work under different rules. The process is driven by producer coalitions of export‐oriented firms and core workers’ representatives, rather than by firms per se.

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What do the recent trends in German economic development convey about the trajectory of change? Has liberalization prepared the German economy to deal with new challenges? What effects will liberalization have on the coordinating capacities of economic institutions? This paper argues that coordination and liberalization are two sides of the same coin in the process of corporate restructuring in the face of economic shocks. Firms seek labour cooperation in the face of tighter competitive pressures and exploit institutional advantages of coordination. However, tighter cooperation with core workers sharpened insider-outsider divisions and were built upon service sector cost cutting through liberalization. The combination of plantlevel restructuring and social policy change forms a trajectory of institutional adjustment of forming complementary economic segments which work under different rules. The process is driven by producer coalitions of export-oriented firms and core workers' representatives rather than by firms per se.