Friday, December 12, 2008

Germany vs England - Economics

I think it was Gary Linekar who said - "Football is a game of two halves, between 2 sides of 11 men, and at the end of the game Germany win on penalties."

Now, the game has switched to economics, with the German Finance minister castigating Gordon Brown for his profligacy in trying to 'spend his way out of a recession.' Who will win the battle of economics?

If past history is anything is to go by, it won't need a penalty shoot out - German growth has far outstripped UK growth since the Second World War.

The current situation is interesting because both Germany and the UK are in recession - but for different reasons. (see: German Economy in Recession)

The irony is that the recent budget of the UK (tax cuts, spending increases, higher government borrowing) would have been more suitable and desirable for the Germany economy.

Both UK and German economies have imbalances. Germany's imbalances is that they are relying too much on exports. Domestic saving is high and domestic consumption low. With high levels of domestic savings, it would make sense to encourage consumers to spend, at least during the recession. Furthermore, because Germany currently has a balanced budget (something Gordon Brown could only dream of) it gives them greater scope for borrowing during this downturn.

The Germans are in a relatively good position because:
  • They aren't burdened with same levels of personal debt
  • They don't have a boom and bust in housing market.
  • Boosting domestic consumption would help Germany come out of recession, without causing unsustainable levels of consumer borrowing.
Therefore, in theory expansionary fiscal policy would be quite effective in Germany (probably more effective than in the UK, where consumers are likely to save tax cuts to pay off their onerous debts)

Paradox of Thrift.

People assume saving is good for the economy. Therefore an increase in savings will always help? But, the problem is you can have too much of a good thing - especially if it occurs at the wrong time.

If German saving levels were to continue increasing and domestic consumption falls then their recession will be deep. If they encourage German consumers to spend it will take some of the slack from falling exports and help the economy recover.

It is said you save for a rainy day. - The recession is the rainy day; to persist in balancing the budget and encouraging domestic savings would only aggravate the recession. Germany can and therefore should pursue expansionary fiscal policy. - Not necessarily in the same format as the UK, there are better ways to boost Aggregate Demand than cutting VAT by 2.5%

Fear of Inflation

Everyone knows the social upheaval Germany suffered because of the hyper inflation of the 1920s. Ever since then, Germans have had an understandable feared hyper-inflation. But it is one thing to prudently avoid excess inflation, it is another thing to have a paranoid fear of something with no likelihood of occurring. In a recession, inflation is not the concern. ( A previous post shows how in a recession how much you may need to increase the monetary base sufficiently to prevent deflation).

Germany should not be fearing the hyper-inflation of the 1920s, they should be fearing the deflationary decade of Japan in the 1990s and 2000s.

So maybe Germany can learn something from Gordon Brown after all - it's time for the Germans to lighten up - throw away their classical economic textbooks and go dig some holes in the ground a la Keynes. Bon Chance!

Of course, after the recession is over, the UK has many things to learn from Germany not least:
  • stability in the Housing market
  • encouraging domestic savings
  • Having a strong manufacturing sector
  • Fiscal responsibility over the long term.

1 comment:

Anonymous said...

A German voice:
Let's admit that Germany has no real trouble with its housing market, which is a really good thing compared to some other countries. Let's admit that Germany heavily relies on exports and domestic spending is low. In addition, domestic savings are high so to say a future investment, isn't it?
Now let's take the average consumer's view:
"I save because if I fear not to be able to sustain my living standard due to rising prices in particular in what concerns energy. Secondly, I fear tax increases (instead of cuts) or whatever way the gov may take even more money away from me. (bear in mind that there is a huge difference between gross and net income mainly because of hilariously high social contributions; keep also in mind that the gov does not seem to care about social contribution)"
Let's face it: When there is a boom in Germany, nobody in Germany really wants to realise it. No German newspaper really publishes an article headding "Boom in Germany". Firms made astronomic profits, but workers/employees felt they did not participate in it.
Finally, if you talk about whatever keynesian policy. That was about making debts in recessions and pay back during the upturn. Well, I think we missed the payback part for the last 40 years. So there is big deal for the gov to punishes itself while not acting, saving up money and be even better let's say in ten years. To view it in a very classical way the economy should know what it is doing and why it is doing so. If the market fails, it is their business to get out of the desaster and not the gov's one. It seems to be like a vicious circle one year the economy cries for help, the next year it cries because of distortionary interventions and every time it is the most important year ever. What a baby, what a baby....

One more note:
Please, when you write "budget is in balance" may you specify that as "no new debts were made that year". To students and Ottos this sounds like Germany has no debt!
Bonne chance, to correct you at the end and to be very German ;)

One more:
When you talk about unemployment figures .. to what standard do you refer to?