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What could slow the German economic machine down?

22 Aug 2018 11:55|Marcin Lipka

"Germany, the driving force of the European Union and a well-managed economy with the highest possible credit rating, cannot sleep peacefully. Insufficient investments, a housing bubble or banking sector problems have left them sleepless," writes Marcin Lipka, Conotoxia Senior Analyst.

The German economy has made enormous progress in recent years. First of all, there has been a clear improvement in competitiveness. Tax and labour market reforms at the beginning of this century, along with a well thought-out education and training system for those who have not opted for higher education, have contributed to a more efficient business environment.

Still in 2000, Germany had a current account deficit in the range of 2% GDP and now it has achieved a surplus of 8% GDP, amounting to about 300 billion dollars, which is the highest score in the world - according to Ifo estimates. This is a result of keeping costs down (which also helped the EU enlargement in 2004) and savings from the private sector (mainly businesses), as the latest International Monetary Fund (IMF) report on Germany from July shows.

Insufficient investments

The high competitiveness of exports and significant savings also make Germany a source of capital for the world. They have a positive international investment position - NIIP - at the level of 60% GDP. Positive NIIP is observed in both direct and portfolio investments - the value of foreign shares and bonds exceeds foreign involvement in German assets.

Unfortunately, it seems that the growth rate of savings, especially among enterprises, has been too high and investments are suffering from it. Without investment, it will become increasingly difficult to maintain decent potential growth in the coming years. According to the IMF, the GDP growth in 2023 is expected to be only 1.1%, compared to 2.2% this year and 2.1% next year.

It is not only the private sector that is investing too little. Public investment is also insufficient. The development of e-government or access to fibre-optic internet in comparison with other developed OECD countries looks very poor. Potential growth and entrepreneurship can also be hampered by red tape. The number of procedures involved in setting up a company is one of the highest in OECD countries. Although Germany is still one of the world's leading innovators, investment in new technologies has grown much slower in the last decade than in the case of Switzerland or the United States, according to IMF data.

Banking sector under pressure and bubble housing risk

The German economy is a beneficiary of the eurozone, but there are also problems with this. These include the banking sector, which does not make much profit, although it's generally well-capitalised and is not a threat to the stability of the country.

On one hand, these are the results of extremely low interest rates adjusted to the condition of the entire eurozone, but also a low demand for loans for businesses (high level of savings and insufficient willingness to invest), compared to other eurozone countries (IMF data).

Low interest rates also drive real estate prices. Since 2008, according to the IMF, apartment prices have risen by almost 80% and rent in Germany by more than 40%. During this time, household disposable income has risen by only about 20%. The Fund’s property market analysis shows that "house prices in Munich, Hamburg, Frankfurt and Hannover have risen by 25% to 50% above the levels suggested by the economic foundations."

Germany needs reforms too

The above-mentioned weaknesses in the German economy do not diminish the successes of the last dozen or so years. However, too little willingness to invest may result in slower economic growth in the future. In addition, the excessive increase in housing prices is a warning sign that without reforms to stimulate a better pro-development capital allocation, Germany will soon have to face the consequences of the housing bubble.

22 Aug 2018 11:55|Marcin Lipka

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