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Germany: economic optimism helps Merkel secure another term

Economic Update

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  • The German economy has had a strong first half of the year, growing on average by 2.1%
  • We expect growth to remain healthy for the rest of this year before declining slightly next year
  • Germany is benefiting from the rising economic activity in the rest of the Eurozone, an accommodative monetary policy and high domestic confidence
  • The upcoming federal elections in September will likely win Merkel another four-year term. But there is still no sign of the reforms needed to prepare the German economy for the future

The German economy grew on average by 2.1% annualised during the first half of 2017 (figure 1). Germany has now outperformed the Eurozone average for more than five years. The growth was broad-based. Exports rose because of the economic pick-up elsewhere in Europe, increasing demand for German products. At the same time, German consumers have a high level of confidence in the economy (figure 2). In the second quarter of 2017, consumption actually increased at the fastest rate since 2011. The positive sentiment is not surprising, given the level of unemployment at 4%. There are regional variations, but many regions are seeing only frictional unemployment.

Figure 1: Germany played a good first half of 2017
Figure 1: Germany played a good first half of 2017Source: Eurostat, Rabobank
Figure 2: Consumer confidence approaches an all-time high
Figure 2: Consumer confidence approaches an all-time highSource: GfK, Rabobank

Growth will remain healthy in the coming years, but wage growth lags in real terms

We expect GDP growth to remain healthy during the rest of the year and amount to 2.1%. Producer confidence, as measured by the IFO in Munich, is a leading indicator of GDP growth and indicates continuing growth (figure 3). According to this measure, growth could rise to as much as 4% annualised this year. However, in recent months the IFO has presented a too optimistic picture of growth that appears not to be supported by the actual hard, realised data. The Purchasing Managers’ Index (PMI) suggests that growth will continue at around 2% in the third quarter.

Figure 3: Producers are also very optimistic on the German economy
Figure 3: Producers are also very optimistic on the German economySource: IFO, Eurostat, calculations by Rabobank
Figure 4: Wage growth remains constant while inflation is higher, squeezing real wages
Figure 4: Wage growth remains constant while inflation is higher, squeezing real wagesSource: Eurostat
Table 1: Growth is still healthy
Table 1: Growth is still healthySource: NIESR, Rabobank

For next year we expect growth to decrease slightly to 1.9% (table 1). Inflation is currently lower than we previously expected, partly due to lower oil prices. As a result, real wage growth is still positive and is supporting private consumption (figure 4). Inflation is however higher than in previous years, so it will act as a drag on growth going forward. In addition, wage growth is lagging, which is peculiar given the very low level of unemployment and the tightness in the German labour market in an increasing number of segments and areas. Exports are holding up well thanks to continuing economic growth in the rest of the Eurozone and despite the appreciation of the euro. Continuing accommodative monetary policies are also supporting German companies and the government, though the latter is making little use of it.

Securing future economic growth is (unfortunately) not a theme in the elections

The German federal elections will be held on Sunday 24 September. In all probability, the result will be a new four-year term for Merkel. As is so often the case, the only moot point is who will be her coalition partner. This will mainly affect the tone towards Europe and the future of European integration. Domestically, the focus is more on the issue of how to use the budget surplus: for tax cuts or for investment.

Unfortunately, there is little attention in the election campaign to Germany’s economic future, although investment in roads, schools and education is urgently needed. Productivity growth in the services sector is lagging far behind industry, partly because many professions are protected and network industries have not been liberalised (figure 5). Germany is also lagging behind its neighbours when it comes to digitalisation, and business investment is low at a time while companies have large reserves of cash (figure 6). None of the political parties in Germany seem to have formulated any vision on these issues.

Under Merkel’s supervision, the German economy has been transformed from the ‘sick man of Europe’ to the growth engine of the Eurozone. But now there is a risk that she will preside over a stable economy that is not prepared for the future.

Figure 5: Productivity growth in the services sector is lagging far behind
Figure 5: Productivity growth in the services sector is lagging far behindSource: OECD productivity database (2016)
Note: Added value in real terms, index 1997=100
Figure 6: Both public and private investment in Germany is lagging the country’s peers
Figure 6: Both public and private investment in Germany is lagging the country’s peersSource: OECD Science, Technology & Industry scoreboard (2015)
Note: figures from 2013, investment as a percentage of added value of the business sector
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Author(s)
Daniel van Schoot
RaboResearch Global Economics & Markets Rabobank KEO
+31 30 21 30381

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