Friday, December 12, 2008

German Economy in Recession

GDP in Germany contracted 0.5% in the third quarter, following a 0.4% drop in the second, which corresponds to the official definition of a technical recession – two consecutive reductions in GDP. Unlike the UK, the Germany economy is in recession despite:
  • No boom and bust in house prices
  • No credit boom
  • Relative High level of personal savings and low borrowing. (German savings ratio is 11.7% and forecast to rise - UK's savings ratio was 1% this summer)
  • Government balancing its budget.
It just shows that the causes of recessions can be more complicated than many may imagine. It is somewhat fashionable to say 'excess borrowing caused the recession ' Whilst this is true to a large extent, the experience of Japan, Germany and China show that high savings, prudent government spending and even avoiding boom and bust in housing market is no guarantee for avoiding a recession.
  • Germany is going into recession mainly because exports form a large % of GDP and therefore firms are being affected by the global slowdown.
  • Germany is also being affected by the relative strength of the Euro, which make exports less competitive.
  • The Government's balanced budget is all very admirable. But, in a recession, the fixation with fiscal responsibility could aggravate a recession, when they could do quite a lot to get out of the recession.
  • Germany is also being affected by the global credit crunch. It doesn't matter it started in US. It's just as difficult to get credit in Germany and this is causing a fall in investment.
German Criticisms of UK Policy

Peer Steinbr├╝ck, the German Finance Minister, recently described Britain’s switch from financial prudence to heavy borrowing as crass and breath-taking.

Cutting VAT is not the best way to stimulate the economy. But, rather than criticise UK policy; he should focus on taking the necessary steps to deal with the German recession. Their fixation with responsible borrowing in the times of a recession is a throwback to the classical economics of the 1930s which aggravated the Great Depression.

His comments suggest he misunderstands the purpose of cyclical fiscal policy.

With a savings ratio of 11.7% and rising, Germany would benefit from encouraging consumer spending. Their economy has become too reliant on exports. This is fine when the global economy is doing well. But, now the global economy faces the worst recession since the war, Germany could see a sharp contraction in manufacturing output.

German unemployment is under 3 million but, it could rise to 5 million - the figure seen in the last German recession. The prudence of balancing a budget will mean little to those 5 million unemployed.

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