On behalf of my authorities, I would like to thank staff for the discussions and the candid and balanced assessment of the German economy. My authorities find their views well-documented in the report.
The German economy has been performing well and its performance continues to be strong, sustainable, balanced, job-rich and inclusive. Driven by domestic demand the upswing is ongoing, while increasing supply-side bottlenecks are reflected in strong wage growth and in higher domestic inflation. Employment is continuing to increase and unemployment is expected to fall to a new record low in 2019. In line with our commitments at the European and national level, public government debt is decreasing towards the debt ceiling of 60 percent of GDP. Reliable social safety nets are securing the inclusiveness of growth.
We broadly agree with staff’s views on the near-term outlook and the challenges in the medium term. We emphasize that potential growth is set to slow down over the medium term. Like staff we see the main risks and challenges to the outlook stemming from external factors and from Germany’s demographic profile. The aging of the society is one of the major obstacles for stronger potential growth. However, further increases in labor participation especially of women and the elderly, a reduction in long-term unemployment as well as qualified immigration may mitigate the negative economic and fiscal impact of the decline in working age population to some extent.
Fiscal Policies remain forward looking, prudent, and growth friendly. The fiscal stance in Germany is mildly expansionary, in spite of an increasingly positive output gap. Public investment in physical and human capital will be increased further. The new government is committed to tackle still existing capacity constraints for public investment at the municipal level and to simplify tax administration to improve business climate. The phasing out of the solidarity surcharge will reduce the labor tax wedge.
Having said this, we do not agree with the assessment that there remains ample fiscal space after implementation of current government plans. Against the backdrop of the significant challenges stemming from an aging society, we see a strong case for using the opportunity to build buffers for the time to come. We see a balanced federal budget as an important guide post to anchor expectations which can serve as an anchor of stability not only for Germany but also for the Euro Area. Preserving fiscal sustainability in the face of demographic challenges and rebuilding buffers for unforeseen but probable events, like a future economic downturn, is of utmost importance. Moreover, all levels of government must be prepared for a normalization of interest rates.
My authorities reiterate their view that the German current account surplus is a result of private sector decisions in international trade as well as in domestic saving and investment and not of domestic policy distortions. To a considerable degree the current account surplus is explained by the rapidly aging population. Therefore, we expect that the current account surplus will decline in the years to come, especially when the baby boomers will retire. Also, differences in expected GDP growth domestically and abroad and trading partners’ policies help explain the surplus. It is not fully clear whether these factors are adequately reflected in the models used by the staff to evaluate current account balances. Therefore, we would like to stress that a cautious interpretation of EBA “norms” is warranted, given the high model and estimation uncertainty. The same is true for the REER estimates: In contrast with the IMF assessment, the Bundesbank currently does not consider the REER as significantly undervalued, and instead assesses German price competitiveness to be neutral within reasonable error bounds. Methodically, we would reiterate the view that on a global scale – since Germany is a member of the European Monetary Union – the euro area balance should be the primary reference for assessing the significance of current account developments.
We agree with staff’s assessment that more analysis on the rise of corporate savings is needed. We also see a need for a more multilateral scope of analysis and reporting on current account developments, encompassing trading partners’ macroeconomic policies as well as the role of monetary policy, exchange rate developments and other external factors.
The ongoing more robust wage growth will further strengthen domestic sources of growth. However, we highlight that wage increases cannot be set politically. Wage setting is left to social partners. This decentralized process for wage bargaining is highly valued in Germany and communication by officials has often been seen as politicizing social partners’ negotiations.
We agree with staff that higher domestic investment is desirable. In the past years Germany has already implemented various measures to promote domestic investment, and there is a commitment to do more in the new coalition agreement, including investment in education, e.g. increased supply of all-day childcare and all-day schools; expansion of training for refugees, which will help to integrate refugees in the workforce; investments in the expansion of high speed internet and 5G network, while public investment must not crowd out private investment.
Germany launched various initiatives that will strengthen potential growth and incentivize private investment in a sustainable, forward-looking, and cost-efficient way:
- The new government will support digital transformation through investments in digital infrastructure and an improving supply of skilled labor. The Federal Government aims at rolling out comprehensive gigabit networks. Additional public investment will predominantly be aimed at rural areas, where private investments could not be expected in the near future.
- The new government will continue the transition to renewable energy sources while reducing uncertainty in the energy sector for private investors.
- Labor supply will be strengthened and the new government will make it more attractive to extend labor market participation. Furthermore, there are plans to further support vocational training and life-long-learning, invest in the integration of refugees, promote the reconciliation of work and family life for all, and safeguard the fairness of labor markets.
- Support of R&D to small and medium sized enterprises as well as measures to improve the framework conditions for venture capital will help to stimulate investment and innovation.
- We agree that greater competition in product markets are warranted but are not convinced about staff’s recommendations regarding reforms in the professional services. We consider many of the existing regulations to be justified by legitimate concerns guarding against potential deterioration of quality and consumer protection standards.
We broadly agree with staff on their assessment of the housing market and the financial sector. The housing sector has, in recent years, been characterized by rising prices, in particular in the major German cities. Our authorities are monitoring the housing market closely and do not see any immediate risks to financial stability stemming from this market. In this context a lack of substantial credit growth or deterioration of credit standards, and households’ strong balance-sheets are reassuring. At the present juncture, they do not consider the activation of borrower-based macroprudential tools to be warranted. The financial sector as such is resilient, capital buffers in the banking and live insurance sectors are deemed comfortable, and restructuring is ongoing, albeit slowly. At the same time, the low interest rate environment and strong competition remain challenging for the financial sector.