Michael Brandl > Macro Updates > Archives > June 1, 2003

July 15, 2003

Thinking about Germany.  What to make of the German economy?  For decades Germany was the economic powerhouse of Europe.  The German central bank, the Bundesbank, did a great job in controlling inflation.  German productivity was the envy of the rest of world.  But no more.  Germany is its second recession in three years, the unemployment rate is at 10.6%, and its government budget deficit is out of line with the EMU’s Growth and Stability Pact.

Chancellor Gerhard Schröder has pledged to get Germany’s economy back on its feet.  His “Agenda 2010” is a plan to scale back the Germany welfare state, cut taxes and reform Germany’s restrictive labor markets.  Major reforms are needed in Germany considering its aging population, sky-rocketing health care costs, and loss in productivity advantage.  Opinion polls across Germany suggest the German people are ready for major reforms.

But will it happen?  I’m a bit worried.  Here is what could possibly happen:  the U.S. economy starts to pick-up at the same time the benefits from the first round of reforms hit Germany.  This could start to happen in early 2004.  With things start to improve, albeit slightly, in the German economy, the taste for reform begins to diminish.  Schröder, the ever opportunistic politician senses this and puts all other reforms on hold.  Thus, the Germany structural reforms never take place, and the German economy just sort of putts along. An opportunity for meaningful reform is wasted. 

We have seen this type of behavior before.  Think of Japan over the last ten years.  Policymakers who are make their decisions based on the most recent poll data make lousy reformers.  My fear is Gerhard Schröder might be one of these.  I hope I’m wrong. 

 A pop quiz:  name the democracy with the fastest growing economy?   I will give you a hint:  they have great food.  The answer is:  India.  We don’t hear much about India in the U.S. press…except when something bad happens there…which is unfortunate.  Take a closer look at India and I think you will be surprised.  India’s GDP will grow at an annual rate of at least 6% this year.  Pretty good when you consider the weak world economy.  Sure, a good deal of this economic growth is thanks to a good monsoon season, but look closer at the Indian economy.

 Merchandise exports increased almost 20% last year in India.  And this was in the midst of a world wide economic downturn. The rupee has appreciated, Indian stock markets are advancing, inflation remains under control, and the Indian banking system is stable.  Indian firms are becoming more productive and learning how to produce world standard goods and services.

 Now if the Indian government would get its act together and free up its labor market as well as work on controlling corruption.  In addition, the Indian government needs to get its budget deficit under control.  India is finally realizing that “the Raj” is not the key to economic growth and development.  It is the private sector that is pushing India to a higher standard of living.  Now, if the rest of the world would only take notice…