Why is GDP growth declining

German economy on the road to recovery

Federal Minister Peter Altmaier presents the federal government's current interim projection

The corona pandemic plunged the German economy into a severe recession. The shutdown from mid-March to early May led to a historic slump in economic output. In the course of the gradual easing, economic activity quickly revived from a low level in the following months. This development affects both industry and many service sectors. The economic recovery will continue in the further course of the year, albeit at a somewhat more moderate pace. Overall, the federal government is anticipating a decline in gross domestic product of 5.8% for the current year (Figure 1).

Economic output is then expected to grow by 4.4% in 2021. This corresponds to a rather slow recovery path: only at the beginning of 2022 will economic activity return to its starting level before the crisis at the end of 2019.

The extensive economic policy measures that prevent bankruptcies, secure liquidity and income and, in particular, stimulate economic activity and growth, play an important role in the economic recovery. With the second supplementary budget from July 2020, the federal government is making more than 100 billion euros available for the economic and crisis management program. In addition to further measures to secure the companies (bridging aids), demand impulses are set through extensive relief. The key here is to lower the regular VAT rate by three percentage points by the end of the year. The future package also provides long-term impulses for the energy transition, digitalization and improving competitiveness. At the same time, many of the measures to combat the economic effects of the pandemic are continuing, in particular short-time working benefits and easier access to basic security as well as the federal loan programs.

With a forecast decline in economic output of 5.8% in the current year, the recession is not quite as deep as expected in the spring projection from April (6.3%). The decisive factor for the upward revision of the projection is the rapid economic recovery after the deep slump in April: industrial production rose sharply again in May and June; retail sales were even above pre-crisis levels. Accordingly, the economic starting position for the third quarter was better than predicted. The positive development is likely to continue in the course of the third quarter, albeit at a more moderate pace. This is supported by the positive business expectations of entrepreneurs and the continuous decline in short-time work. The reduction in VAT and the child bonus provide additional impetus to activate domestic demand. As a result, the economy is likely to grow significantly faster in the third quarter than forecast in April.

The growth expectations for 2021 have been revised down slightly compared to the spring projection (+4.4% instead of +5.2%). In particular, the development of the global economy is likely to be subdued for a longer time in view of the further global spread of the pandemic. But in Germany, too, it is now foreseeable that containment measures and changes in the behavior of citizens will permanently restrict economic development in some sectors (e.g. gastronomy, transport).

Assumptions of the interim projection 2020

In the present projection, no further pandemic waves are assumed that would require a renewed national shutdown. At the same time, we do not make any assumptions in the projection as to whether and when an effective drug or vaccination against SARS-CoV-2 can be used on a broader scale by the end of the projection horizon.

In accordance with forecasts by international organizations, the global economy is expected to decline by 4.4% this year and a significant recovery of 6.2% in the coming year.

A technical assumption is made for the development of the oil price on the basis of forward quotations at the time the projection is completed. Accordingly, an average crude oil price for a barrel of Brent crude of 44 US dollars can be assumed for the current year, in the coming year the price is likely to rise slightly to 48 US dollars.

All economic and financial policy measures that have already been decided upon have been taken into account in the projection. This also includes expenditures and shortfalls in income as part of the economic and future package.

Recovery of the global economy in the second half of the year

The effects of the corona pandemic have plunged the global economy into a severe recession. The slump is mainly reflected in the second quarter, which was hardest hit by national shutdowns. After a minus of 2.9% in the first quarter, global economic output fell again by 6.9% in the second quarter. Only China was able to record strong growth again in the second quarter. In addition to direct effects on consumption, the shutdowns also disrupted international supply chains. In the course of the gradual relaxation of infection control measures in many countries, there will be a moderate recovery in the global economy in the second half of the year.

Based on the forecasts of international organizations, a decline in global economic output of 4.4% is expected on average for 2020. In the following year there should be a strong catching-up process; the global gross domestic product should then increase by 6.2%. The economy in the developed economies is collapsing more than in the less developed countries, and it will also recover more slowly there in the coming year.

World trade has been hit harder by the corona pandemic than global economic output. For this, the federal government expects a decline of 12.5% ​​in the current year. Accordingly, German exports are also likely to drop significantly by 12.1%. German domestic demand, which has not collapsed quite as sharply, has resulted in a somewhat less downward trend in imports. In the current year, this will lead to a significantly negative external contribution (-2.3 percentage points). Together with primary and secondary income, there is a net falling current account surplus. It will drop from 7.1% of gross domestic product in 2019 to 6.0% in 2020.

In the course of the gradual recovery in world trade, the German government is expecting exports to grow by 8.8% in the coming year. Overall, however, German foreign trade at the end of 2021 will not have reached the price-adjusted level of the end of 2019.

Investment is dampened by uncertainty and the industrial recession

The export-oriented industry is very capital-intensive, which is why investment in equipment is closely linked to the development of the external economic environment as well as the industrial economy.

In light of the recession in the manufacturing sector, investment in equipment declined significantly in the first half of the current year. In the course of the gradual recovery in world trade, the Federal Government expects a slight recovery in investment activity from the second half of the year. Due to the continuing uncertainties with regard to the further economic development at home and abroad, this recovery is likely to be much more moderate than in earlier phases of the economic recovery. For 2020 as a whole, the federal government is anticipating a 16.5% decline in investment in equipment. With a growth rate of 12.0% in 2021, only part of the decline will be made up for.

Despite the difficult circumstances, the construction industry is showing itself to be very robust. This resilience is also related to the fact that the demand for construction investments is supported by the persistently low interest rate environment and the increased liquidity. However, the construction industry cannot completely escape the effects of the corona pandemic: Above all, non-residential construction, which reacts much more strongly to economic developments, is likely to stagnate until the end of the year. Overall, the federal government expects real construction investments to grow by 3.8% in the current year. This development is likely to continue in the coming year, albeit at a slower pace (+ 2.4%). The increasing shortage of skilled workers is likely to drive construction prices further.

As a result, gross fixed capital formation will decrease by 3.7% this year and expand by 5.2% next year. A strong expansion of investments by the federal and state governments counteracts the reluctance to invest in the private sector: In the current year alone, the public sector is investing over 12 billion euros more than in the previous year.

Shortly:

380,000 fewer people in gainful employment expected in 2020.

Trend reversal in the labor market

The labor market was particularly hard hit in the months of March to May. In these months, employment fell by a seasonally adjusted 700,000 people, while unemployment rose by 600,000 people. The developments on the current edge, however, indicate a comparatively rapid recovery after this deep slump: unemployment has been falling slightly since July, seasonally adjusted, employment is increasing and short-time working is on the decline.

This development will continue in the further course of the year; Overall, however, employment will fall by 380,000 people this year. Short-term employment relationships and mini-jobs are disproportionately affected by the decline; there is no stabilization through short-time work. In the coming year, the federal government expects employment to increase by 190,000.

Unemployment is likely to rise by 425,000 people this year. On the one hand, the cyclical number of recipients of unemployment benefits from the area of ​​SGB III will increase. By facilitating access to basic security, however, SGB II unemployment will also increase. In the course of the economic recovery, the federal government expects unemployment to decrease by 160,000 in the coming year.

Short-time working plays an important role in assessing the development of the labor market. With almost 6 million people, it peaked in April and prevented many layoffs. In view of the significant decrease in registrations of short-time work (see Figure 2), both the number of people on short-time work and the average loss of work are likely to continue to decline significantly in the further course of the year - an annual average of around 2.5 million people will be on short-time work.

Low oil prices dampened inflation

For the current year, the federal government is only expecting a low inflation rate of 0.6%. In the course of spring, the rise in consumer prices slowed noticeably. The reason for this was the corona-related significant decline in the price of crude oil on the world market, which was temporarily reinforced by a production competition between Russia and Saudi Arabia. Even if the price of crude oil has recovered somewhat in the meantime, according to the oil futures it should only gradually reach a higher level again and contribute to the upward trend in consumer prices. With the reduction in VAT in the middle of the year, another strong price-dampening factor comes into play in the second half of the current year.

For the next year, after the crude oil price effect has expired and in view of the withdrawal of the VAT cut, a stronger rise in consumer prices of 1.3% is expected again. Core inflation, i.e. the development of consumer prices excluding volatile energy and food prices, will rise by 1.0% and 1.3% in 2020 and 2021, respectively.

Declining incomes weigh on consumption

The Federal Government expects that the effective wages per employee will fall again for the first time in a long time this year (-0.7%). There are two reasons for this: In view of the economic situation and the comparatively poor situation on the labor market, the parties to the collective bargaining agreement are only likely to agree on minor wage increases. In addition, the massive use of short-time work also plays an important role, which dampens wage developments.

Due to the decline in employment, the wage bill, at -1.1%, is falling more sharply than the corresponding per capita figure. In the coming year, however, gross wages and salaries will catch up sharply at 3.2%.

The short-time work allowance secures part of the lost income and stabilizes the disposable income. This leads to a strong expansion of monetary social benefits in the current year (+ 10.1%). Overall, the disposable income of private households will fall by 2.8% this year and will recover in the coming year with growth of 1.8%.

The shutdown severely restricted the consumption options of private households, especially in the second quarter. As a result, consumption fell by over 10%, while the savings rate rose significantly. In the further forecast period, private consumption will be expanded again and the saving of citizens will continue to normalize again, since with the onset of the easing, a large part of the consumption options will be available again.

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The Federal Government assumes that even lasting changes in behavior in consumption, such as not going abroad, do not lead to a permanently higher propensity to save on the part of consumers, but rather to substitution effects. The reduction in VAT and the child bonus provide additional impetus for activating domestic demand.

On an annual average, real private consumption is likely to decline by 6.9% before recovering significantly in 2021 with growth of 4.7%.

German economy underutilized

The projection of economic development in the medium term, i.e. H. for the years 2022 to 2024, is based on the structural growth opportunities of the German economy. The production potential describes the economic activity of an economy with normal utilization of the production factors. In principle, it can be assumed that after a shock like the corona pandemic, the economy will return to its potential path in the medium term. However, the potential path itself is influenced by the crisis, since structural changes (e.g. corporate insolvencies) are to be expected despite all the aid measures. The potential growth is 1.0% in 2020 and 1.1% in 2021. This is noticeably lower than calculated in the annual projection in January, but slightly higher than in the spring projection in April. At the end of the projection period in 2024, the potential growth rate will decrease to 0.8%. The decline in the potential workforce due to demographic change is particularly noticeable here.
The comparison of the production potential with the GDP shows that the corona-related slump in growth in 2020 will lead to a significant underutilization of the German economy. It is reflected in a negative output gap (GDP minus potential output) of -5.0% of potential output. The economic recovery from 2021 onwards will reduce the output gap to -1.9% of potential output in 2021. At the end of the medium-term projection period, the technical assumption is made that the output gap will close, so that in 2024 GDP will match potential output.

Shortly:

Company bankruptcies will dampen growth opportunities.

chances and risks

Given the course of the pandemic in important trading partner countries, the recovery process in Germany is likely to progress only slowly and last for a while. In the present projection, however, no further pandemic
There have been waves in Germany that will require another national shutdown. At the same time, we do not make any assumptions in the projection as to whether and when an effective drug or vaccination against SARS-CoV-2 can be used on a broader scale by the end of the projection horizon.

In addition to the uncertainties regarding the course of the pandemic, there is a risk that companies will encounter liquidity difficulties despite the support measures taken in many countries. The risks that arise from the global economy, including the risks to the stability of the global financial markets, have also increased further in the wake of the corona crisis. Further risks for economic development arise from the modalities in relation to Great Britain's exit from the EU and the simmering trade conflicts between the USA and China.