Germany’s economy is slowing. The Handelsblatt Research Institute predicts a decline to 1.1 percent in 2017, an election year. Consumers may be the only thing holding Europe's largest economy above water.
The German economy is always good for a surprise. In the first half of 2016, Europe’s largest economy experienced its strongest growth in five years – and that despite a noticeable cooling of the world economy.
Economic researchers were surprised by 0.7 percent growth in the gross domestic product (GDP) in the first quarter, compared to the first quarter of 2015. But the economy also grew more strongly than expected in the second quarter, at 0.4 percent.
Those surprises have prompted the Handelsblatt Research Institute to raise its economic forecast for this year by 0.2 percentage points to 1.7 percent growth. But that doesn’t mean they’re any more optimistic about the years that follow.
Sadly, the German economy, ever-reliant on exports to drive its growth, can’t remain immune to the global slowdown forever.
The HRI predicts a weakening in German GDP growth to 1.1 percent for 2017. It blamed weak foreign trade for the skepticism over next year.
“This shows that globalization and world trade are stagnating. We can hope that this is only a pause,” said HRI President Bert Rürup. “And, of course, this globalization pause affects Germany, in particular, a globalization winner with its export-oriented business model.”
Those forecasts make HRI more mildly pessimistic than other economic research institutes in Germany, such as the German Institute for Economic Research (DIW), the Leibniz Institute for Economic Research (RWI), the Kiel Institute for the World Economy (IfW) and the Hamburg Institute of International Economics (HWWI).
As goes trade, so goes the German economy: The main reason for the strong growth in the first half of the year was a surprisingly positive external balance, or the difference between exports and imports. It rose, albeit not because of a strong rise in exports, but because imports stagnated.
The foreign trade figures issued by the German Federal Office of Statistics for July offered a bleak picture for the second half. Exports fell by 10 percent year-over-year, the biggest decline since the global recession in the winter of 2008/2009, and imports were down 6.5 percent.
That doesn’t bode well, and risks to foreign trade have only increased in the past few months.
Britain’s vote to leave the European Union will have negative consequences. Exporters are worried about the upcoming referendum in Italy and the risk of protectionist steps by the United States if Donald Trump wins the presidential election.
All of this is why the HRI assumes that GDP growth will slow considerably in 2017. There is also the fact that Germany will have three fewer working days in 2017 than in 2016.
Thanks to strong wage development, domestic consumption has also become an important pillar of the economy, but this is only likely to cushion some of the blow from weaker exports.
The flattening growth momentum and the rising number of refugees with the right of residence are becoming a stress test for the German job market. Some 900,000 people are currently participating in professional integration and qualification programs, but many are unlikely to find a job afterwards.
At the same time, employment growth is slowing down. This is why the HRI predicts an annual average of 2.9 million unemployed people in 2017. That would still be an increase of 150,000 over 2016 but not as strong as in past years.
While Germany has been growing more solidly in the last few years than many of its European peers, there are many that feel Europe’s largest economy hasn’t taken full advantage of the environment around it.
“One could ask the question why the German economy isn’t growing more strongly,” said Mr. Rürup. “The combination of low interest rates, a return to population growth, strong wage and pension increases, citizens eager to consume and an unexpected construction boom ought to lead to more than 2 percent growth.”
So why hasn’t’ there been more growth? Much of this leads back to companies: Increasing production in the long term would require expanding production potential, which in turn would require companies to invest more of their savings by expanding their operations.
Investments are based on strong business expectations. But that is precisely the problem. Brazil, Russia and the OPEC countries are suffering from low commodity prices. China’s growth is slowing down, and populists around the world are preaching protectionism. All of this is toxic to world trade – and therefore toxic to German exporters.
This is why the HRI expects investment in new equipment to continue to lose steam. Only construction is expected to have a positive impact on the development of investments, but even this boom is in jeopardy.
A law enacted in March on lending standards in residential housing construction tightened the requirements for borrowers. With some banks, this has already led to a decline in lending for residential housing by almost 10 percent.
That really only leaves one avenue for Germany’s economy to keep growing: Consumption.
This is where the underlying conditions could hardly be better. Pensions and wages are rising more than they have in a long time, there is record employment and interest rates are extremely low.
Nevertheless, Germany is still not seeing a boom in consumption. The HRI expects decent but not overly spectacular growth in private consumption by 1.6 percent this year and 1.1 percent in 2017.
Like other economic institutes, the HRI also expects a significant rise in the inflation rate – from an annual average of 0.6 percent in 2016 to 1.7 percent in 2017. This brings the European Central Bank’s inflation target of just under 2 percent within reach, which could make it difficult to continue justifying the ECB’s ultra-relaxed monetary policy, though it remains to be seen whether other euro-zone countries see a similar uptick in prices.
Government finances should also remain sound – which isn’t too hard given that investors have actually been paying Berlin to borrow money of late. The HRI expects a budget surplus in relation to GDP of 1.0 percent in 2016 and 0.3 percent in 2017. Mr. Rürup however counseled politicians against spending all the money too quickly.
“It would be smart if lawmakers would dispense with election gifts and invest the money in our aging infrastructure or, even better, in the digital infrastructure,” said Mr. Rürup. That could place Germany on a higher growth path for the long term.