Economic growth in Germany apparently slowed to just 0.3% in the most recent quarter, and performance across the Eurozone, while positive, remains sluggish. Despite a weaker euro, which should boost net exports for the region as a whole, and the quantitative easing policy of the European Central Bank (ECB), this is bad news.
It is arguable that, contrary to much German government rhetoric and conventional wisdom about the different work ethics of the various nations in the Eurozone, German economic policy since 2000 has been a key driver of the crisis in the Eurozone and a failure to change course is holding the continent back.
Germany runs a large current account surplus, driven by a decent rate of growth of net exports (exports minus imports). This reflects a persistent excess of domestic savings over domestic investment, and a slow growth of domestic demand. Since the founding of the euro in 1999, wages in Germany have been held down by a combination of labour market deregulation, competition from workers in Eastern Europe and trade union agreements to moderate wage claims. Squeezed household incomes and a high rate of net saving has been the result. This surplus of saving was exported (as loans) to banks in Southern Europe in the 2000s, helping to fuel credit and housing bubbles in the so-called ‘periphery’ of the Eurozone. The resulting boom raised demand for German exports, perpetuating the current account imbalances between broadly the Northern ‘core’ and the periphery. With the onset of recession in 2007-8, housing and debt bubbles collapsed, dragging the Spanish, Portuguese, Irish and Greek economies down and leading ultimately to large budget deficits and the sovereign debt crisis, from which the region is still struggling to escape.
There has been some adjustment in unit labour costs between the core and periphery, which is going some way to reduce the current account imbalances within the Eurozone. But this has been at the cost of mass unemployment. As already described, growth remains feeble, and unemployment high, particularly in the periphery. What is needed, beyond the touted microeconomic reforms to product and labour markets, is an expansion of public and private investment in Germany, to raise productivity, wages and consumption, and reduce its excess of net savings and by implication, its current account surplus. The government can run a balanced budget if it wants to (this seems to be a German obsession), increasing taxes to pay for the needed infrastructure spending. Some form of microeconomic reform aimed at stimulating private sector investment is also necessary, alongside a hoped-for ‘crowding-in’ of private investment that the public spending can potentially produce.
These policy moves by Germany would be a win-win: firms and households in Germany would benefit from faster growth in profits and wages, and the exports of other Eurozone countries would rise faster, boosting growth in the periphery, reducing the proportionate share of public and private debt and making them easier to pay off by improving government, firm and household balance sheets.
Of course, the effects of a reduced German current account surplus through increased domestic demand would be spread unevenly through the region and will also ‘leak’ to countries outside the Eurozone, but the benefits would remain. If Germany went even further and managed to run a current account deficit through even faster growth in domestic demand, the effects described above would be even stronger, and many elements of the crisis would be resolved faster. However, policies such as these are anathema to German policy-makers and to many economists in Germany, who see saving and export surpluses as a kind of moral good to which all countries should aspire. Someone needs to persuade them, and fast, that the fallacy of composition holds in this case. If all countries try to run export surpluses by either reducing domestic consumption or devaluing the currency (not an option in the Eurozone), overall demand will fall and they will collectively fail. After all, one country’s exports are another’s imports.
The Eurozone represents a significant proportion of the global economy. It is therefore vital for its prosperity and that of the world that Germany in particular, as the largest EU economy, and other smaller core EU countries running large current account surpluses, act to stimulate domestic demand, through higher investment or consumption. Each country will have different needs, but some act of intelligent judgement is needed as to the mix between the two and between the public and private sectors. This is a necessary condition for a Europe-wide recovery that reduces the social misery of mass unemployment as quickly as possible, alongside the burdens of debt that have proved such a problem in recent years.