## _cr0915 — Executive Summary and Key Findings

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### Near-term outlook and growth projections
- Projection: Real GDP growth in 2008: 1.7 percent.
- Projection: 2009: contraction of 0.8 percent.
- Projection: 2010: sluggish growth of 0.5 percent, well below potential of about 1½ percent.
- Scenario: "a further four quarters of negative GDP growth" likely following contractions in Q2 and Q3 2008.
- Drivers of downturn:
  - Primary shock: slowing world demand and a sharp drop in foreign orders.
  - Investment projected to fall by 2¾ percent in 2009, contributing ⅔ percentage point to the decline in output.
  - German consumption subdued due to precautionary savings and rising unemployment expectations.
- Risks:
  - Risks to growth tilted principally to the downside; longer persistence of global shocks would deepen and prolong weakness.
  - Expectations (especially 6–12 month forward-looking indicators) at historic lows and may become self-fulfilling.

### Financial stability developments, FMSF, and bank vulnerabilities
- Immediate actions taken:
  - Public commitment to fully protect household deposits.
  - Establishment of the Financial Market Stabilization Fund (FMSF) as conduit for a €100 billion package available until December 31, 2009.
  - Package composition: €20 billion provision to back guarantees of up to €400 billion; up to €80 billion for capital injections or purchase of assets.
  - Guarantees available for select newly issued debt securities and liabilities with maturities of up to 36 months.
- Use of package and SoFFin activity:
  - Hypo Real Estate drew on the guarantee window.
  - Commerzbank to receive capital support as silent participation and can call on guarantees.
  - Länder share 35 percent of costs (capped at € 7.7 billion) and absorb Landesbanken-associated costs.
  - SoFFin committed guarantees: 95 bn euros (out of overall envelope of 400 bn euros).
  - SoFFin recapitalization support used: 8.2 bn euros (out of maximum envelope of 80 bn euros).
- Banking sector vulnerabilities and indicators:
  - German banks’ exposure to emerging markets doubled to about $450 billion (June 2007–September 2008), representing 4 percent of all German banking assets and 12 percent of all German banks’ foreign claims.
  - Equity-to-consolidated assets ratio of German banking system: at about 4½ percent.
  - Bank Regulatory Capital to Risk-Weighted Assets (Germany): 12.9 (selected-country table).
  - Bank Capital to Assets (Germany): 4.3.
  - Bank Nonperforming Loans to Total Loans (Germany): 2.7.
  - Bank Return on Assets (Germany): 0.2.
  - Bank Return on Equity (Germany): 4.7.
  - Short-term Funding Ratio (Germany): 30.7.
  - Tier 1 Capital to Total Capital (Germany): 68.6.
  - Off-balance Sheet Items to Total Liabilities (Germany): 16.0.
- Market-based distress:
  - Implied ratings of banks fell sharply between January 2007 and November 2008; share of investment grade-rated banks fell from 84% to 74% (asset-weighted, S&P scale).
  - Corporate bond spreads rose sharply in late-September and early October 2008, consistent with prolonged weakness into 2009.

### Macro-financial linkages and spillovers
- High trade and financial openness amplifies spillovers:
  - A German slowdown lowers growth in the rest of Europe, which feeds back to Germany.
  - Likely reduction of German banks’ emerging-market exposure would generate cascading spillovers.
- Policy coordination:
  - Internationally coordinated measures will be more effective to contain a self-reinforcing slump.
  - Germany’s request for an FSAP update is timely and consistent with a risk-management approach.

### Fiscal stance, stimulus size and composition
- Fiscal room: generally sound fiscal position allows for a sizable but targeted stimulus.
- Staff recommendation (assuming multipliers of 0.4-0.5): bringing GDP growth to zero in 2009 would require a frontloaded fiscal stimulus of 1½ to 2 percent of GDP.
- Authorities’ measures and packages:
  - October and November 2008 packages: net fiscal stimulus (in millions of euros): 4785; 14831 (in percent of GDP): 0.2; 0.6.
  - Authorities announced new package: 50 billion euros expected to be spent over two years (Supplementary Information).
  - Additional 0.9 percent of GDP envisaged for 2009 will bring total stimulus for this year to 1¼ of GDP (Supplementary Information).
- Staff-preferred composition (cost-effectiveness, lags, uncertainty):
  - One-off targeted payments to low-income households: Large cost-effectiveness; Short lag; Small uncertainty.
  - Bringing forward planned reductions in social security contributions (federal transfer to Health fund): Large; Small lag; Small uncertainty.
  - Accelerated infrastructure and maintenance spending (projects in pipeline): Large; Medium lag; Small uncertainty.
  - Private investment incentives (accelerated depreciation) and increased lending through KfW: Small effectiveness while business confidence is low.
  - VAT reduction considered less appropriate.
- Illustrative stimulus package (presented in source, percent of GDP and billions of euros):
  - One-off payments to low-income households: 3.6.
  - Accelerated health care reform: 10.0 8.5.
  - Accelerated public investment: 24.9 0.5.
  - Authorities' Fall 2008 fiscal measures: 4.8 14.8.
  - Total presented: 3.6 39.7 23.8 (as structured in source).

### Medium-term fiscal sustainability and institutional reforms
- Fiscal rule: authorities aim to amend the Basic Law to limit the structural budget balance to close to zero from 2011; staff stressed rule should apply to the states as well.
- Public debt projections and risks:
  - Authorities estimate under a benign scenario public sector debt could stabilize at about 10 percent of GDP.
  - Staff projections (including recent pension increases) caution public sector debt could reach 50 percent of GDP.
- Health sector:
  - From 2009, a Health Fund financed by federal budget and individual contributions will allocate funds to insurers; insured required to pay fees directly to insurers, on average five percent of the total estimated costs for the year.
  - Further cost savings possible, notably in pharmaceutical expenditures and through efficiency-enhancing competition.
- Subnational finances:
  - States’ own-source revenue < 2 percent of total state revenue; extensive transfers including horizontal transfers (0.3 percent of GDP in 2007) and supplementary federal grants (0.6 percent of GDP in 2007).
  - Suggested reforms: structural-deficit or expenditure-based fiscal rules at federal and state levels; surveillance mechanism; increased state tax autonomy.

### Deposit insurance, safety net design, and regulatory recommendations
- Deposit insurance fragmentation and issues:
  - Statutory scheme coverage cited as (€20,000; 0.7 times GDP per capita) and described as low by international comparison; coinsurance element present.
  - Reimbursement under statutory schemes initiated by BaFin should be completed within 3 months (extension for another 3 months possible).
  - Private and association-run schemes exist for different pillars (commercial banks, savings banks/Landesbanken, public banks, cooperative banks) with limited public information on actual financial strength.
- Recommendations:
  - Create a single fund for statutory deposit insurance coverage spanning the pillars of the German banking sector to replace funds run by various associations, providing unified coverage and transparency.
  - More ex ante funding of deposit insurance preferred to reduce procyclicality.
  - Evolving EU rules should guide policy: raise minimum coverage initially to €50,000 and possibly to €100,000 when adopted as the EU minimum; facilitate prompt access to insured deposits.
  - Remove coinsurance feature of statutory schemes.
- Prudential and supervisory reforms:
  - Institute a bank resolution mechanism with prompt action capability and broaden powers to dilute shareholders beyond current 50 percent FMSF dilution limit.
  - Reduce reliance on external auditors for timely supervisory assessment.
  - Link prudential regulation and supervision to macro-surveillance and stability analysis.
  - Consider institutional arrangements: place oversight under Bundesbank, place all supervision in BaFin, or explore "twin peaks" separation; authorities plan to retain the “integrated supervisor” model but undertake detailed review by March 2009.
  - Address BaFin compensation levels to attract expertise for Basel II implementation.

### Banking market functioning, liquidity, and covered bonds
- Funding pressures:
  - Wholesale funding contracted sharply starting mid-2007 and especially since early 2008.
  - Rollover risk from bunching of maturing debt obligations; Hypo Real Estate highlighted.
- Covered bond market (Pfandbrief):
  - Spreads increased since spring 2008 and stabilized at historically-high levels after September 2008.
  - Secondary Pfandbrief market trading nearly halted since early September 2008; planned issues cancelled or cut, wholesale investors preferring government-guaranteed debt.
- Securitized issuance: declining issuance in 2008 YTD across CDO, ABS, MBS categories (charts referenced in source).

### Inflation, wages, and productivity
- Inflation trends:
  - Inflation rose mainly in headlines; core inflation remained low; no evidence of second-round effects or wage spikes.
  - Projection: inflation projected to decline from 2.8 percent in 2008 to below 1.0 percent in 2009.
- Wages and productivity:
  - Real wages dropped sharply when inflation rose.
  - Charts indicate slowed productivity growth and moderate wage pressures.
- Pass-through (1995–2008) transmission coefficients (international to domestic commodities prices and domestic commodities to core inflation):
  - Germany: Food 0.11, Fuel 0.28, Food 0.22, Fuel -0.02.
  - Memorandum, Advanced economies: Food 0.06, Fuel 0.23, Food 0.20, Fuel 0.01.

### Staff appraisal highlights and priority recommendations
- Protect financial stability while facilitating necessary restructuring:
  - Use FMSF to address urgent liquidity, funding, and capitalization needs; ensure longer-term restructuring (including Landesbanken downsizing/mergers) yields viable private-sector institutions.
- Strengthen regulatory and resolution frameworks:
  - Institute a bank resolution mechanism that can act promptly.
  - Rationalize fragmented deposit insurance schemes and clarify supervisory authority and accountability.
  - Implement regulatory and supervisory enhancements reflecting global crisis lessons.
- Employ targeted fiscal stimulus now, safeguard medium-term sustainability:
  - Prioritize measures that boost near-term demand (targeted household payments, social security contribution timing, infrastructure), paired with a credible fiscal rule.
- Coordinate internationally:
  - Given strong cross-border spillovers, internationally coordinated approaches for financial and fiscal responses are recommended.

### Selected exact numeric items cited
- German banks’ exposure to emerging markets (June 2007–September 2008): about $450 billion.
- FMSF / SoFFin envelopes and usage:
  - FMSF package: €100 billion available until December 31, 2009.
  - Provision to back guarantees: €20 billion (to secure up to €400 billion).
  - Up to €80 billion for capital injections or asset purchases.
  - SoFFin committed guarantees: 95 bn euros (out of overall envelope of 400 bn euros).
  - SoFFin recapitalization support used: 8.2 bn euros (out of maximum envelope of 80 bn euros).
- Banking capital metrics:
  - Equity-to-consolidated assets ratio: about 4½ percent.
  - Bank Regulatory Capital to Risk-Weighted Assets (Germany): 12.9.
  - Bank Capital to Assets (Germany): 4.3.
- Fiscal and macro figures:
  - Staff projection: 2009 GDP fall of 0.8 percent; 2010 growth of 0.5 percent.
  - Supplementary Information revised projection: Growth in 2008 estimated at 1.3 percent; 2009 projection marked down to -2½ percent.
  - New package announced: 50 billion euros over two years; additional 0.9 percent of GDP for 2009 bringing total stimulus to 1¼ of GDP (Supplementary Information).
  - Fiscal package total volume in 2009–2010: approximately 40 bn euros (or over 1 ½ percent of GDP).
  - Cost of measures over two years: 11 bn euros; expected to trigger 50 bn euros in private investment.
  - General government debt (percent of GDP, selected): 2007 65.0; 2008 68.7.
  - GDP per capita (2007): US$ 40,400 (Table snapshot lists US$ 40,400; Supplementary Information lists US$40,391.7).
  - Total population (2007): 82.2 million (Table snapshot); Population (2008): 82.06 millions (Supplementary Information).

*Source: Executive Summary and excerpts from IMF staff report, _cr0915 — Executive Summary and selected sections.*

### Executive Summary

### _cr0915 - Executive Summary

### Near-term outlook and growth projections
- Germany faces a sizeable, and possibly extended, economic downturn with "a further four quarters of negative GDP growth" likely following contractions in Q2 and Q3 2008.  
- Staff projections:
  - Real GDP growth in 2008: 1.7 percent.
  - 2009: contraction of 0.8 percent.
  - 2010: sluggish growth of 0.5 percent, well below potential of about 1½ percent.
- Key drivers of the downturn:
  - Primary shock: slowing world demand and a sharp drop in foreign orders.
  - Investment is projected to fall by 2¾ percent in 2009, contributing ⅔ percentage point to the decline in output.
  - German consumption remains subdued due to precautionary savings preferences and rising unemployment expectations.
- Risks and dynamics:
  - Risks to growth are tilted principally to the downside; longer persistence of global shocks would make weakness more severe and prolonged.
  - Expectations (especially 6–12 month forward-looking indicators) are at historic lows and may become self-fulfilling, amplifying downside scenarios.

### Financial stability developments and measures
- Authorities’ immediate actions:
  - Public commitment to fully protect household deposits provided initial reassurance.
  - Establishment of the newly-constituted Financial Market Stabilization Fund (FMSF) to address urgent vulnerabilities—banks’ liquidity, short-term funding, and capitalization.
  - A few transactions under the package have been completed.
- Ongoing vulnerabilities and required actions:
  - Banks face new risks from weakening corporate credit and exposures to emerging markets.
  - It remains important that the Landesbanken be downsized and merged to form viable financial entities for private ownership and operation; the authorities are examining various options.
- Need for reforms:
  - Crisis highlights the need and opportunity to overhaul the framework for financial stability and prudential regulation, including instituting a bank resolution mechanism to respond more timely.
  - Authorities are exploring rationalizing the patchwork of deposit insurance schemes within Germany and further clarifying authority and accountability within the German prudential regulation and supervision system.
  - Global lessons require regulatory and supervisory enhancements.

### Macro-financial linkages and spillovers
- Germany’s high trade and financial openness amplifies spillovers:
  - A German slowdown lowers growth in the rest of Europe, which feeds back to Germany.
  - A likely reduction of German banks’ exposure to emerging markets would generate cascading spillovers.
- Policy coordination:
  - Policy measures to contain a self-reinforcing slump will achieve more if coordinated internationally.
  - Germany’s request for an FSAP update is timely and consistent with a risk-management approach that should extend to economic and fiscal policy.

### Fiscal stance, stimulus, and medium-term fiscal challenges
- Fiscal room and policy stance:
  - The generally sound fiscal position leaves room for a sizable but targeted stimulus to counter adverse developments.
  - The authorities regard measures taken so far as sufficient, but may complement them with additional stimulus if necessary; staff argued for a more ambitious stimulus now.
- Suggested stimulus composition:
  - Targeted payments to economically-weak households to initially raise confidence and spending.
  - Bringing forward planned reductions in social security contributions.
  - Accelerated infrastructure spending that could have stimulus effects with longer-term benefits.
- Medium-term fiscal sustainability:
  - Commitment to long-term fiscal sustainability through the proposed fiscal rule is necessary and recognized by the authorities.
  - Cost efficiencies in healthcare and reform of fiscal federalism remain medium-term challenges despite recent commendable gains in the state of public finances.

### Staff appraisal highlights (policy recommendations and priorities)
- Protect financial stability while facilitating necessary restructuring:
  - Use the FMSF to address urgent liquidity, funding, and capitalization needs, while ensuring that longer-term restructuring (including Landesbanken downsizing/mergers) creates viable private-sector institutions.
- Strengthen regulatory and resolution frameworks:
  - Institute a bank resolution mechanism that can act more promptly.
  - Rationalize fragmented deposit insurance schemes and clarify supervisory authority and accountability.
  - Implement regulatory and supervisory enhancements that reflect global lessons from the crisis.
- Employ targeted fiscal stimulus now, but safeguard medium-term sustainability:
  - Prioritize measures that boost near-term demand (targeted household payments, social security contribution timing, infrastructure), paired with a credible fiscal rule to maintain long-term sustainability.
- Coordinate policies internationally:
  - Given strong cross-border spillovers, give due weight to internationally coordinated approaches for both financial and fiscal policy responses.

*Source: Executive Summary, _cr0915 - Executive Summary.*

### 9.      These developments in the real economy do not, as yet, reflect a credit crunch,

### These developments in the real economy do not, as yet, reflect a credit crunch, although that may be changing.

### Real economy and bank credit
- Lending standards have tightened somewhat, but more so for large firms than for the small- and medium-sized sector.
- Bank credit to enterprises remained relatively robust, declining only slightly in the third quarter of 2008 as demand weakened.
- Credit growth has been broad based by type of lending institution.
- Staff analysis: banks have been competing on tightening margins, substituting in some cases for the drying up of the corporate bond market.
- Authorities: with higher fund costs and worsening asset quality, a sharper contraction of credit is likely, contributing to a financial accelerator-like process.
- Survey evidence (contribution of financial turmoil to tightening lending standards): credit standards have tightened, but especially for large enterprises (Q2, Q3, Q4 expected; scale 1–5 where 1 = significant easing and 5 = significant tightening; +/- one standard deviation around average).

### Corporate bond market, spreads, and growth outlook
- The corporate bond market is pricing in significant economic weakening; corporate bond spreads rose sharply in late-September and early October 2008.
- Corporate bond spreads are consistent with prolonged weakness and predict a slowing economy through much of 2009.
- Real GDP Growth (year-on-year in percent) and Corporate Bond Spread (quarterly average, in percentage points): staff baseline versus prediction based on bond spreads — corporate bond spreads brought forward 1 year (chart reference in source).
- Comparison of recessions:
  - GDP Growth Rates During 2002 and 2008 Recessions (year-on-year, from quarter 1 to 8) show the current recession is likely to be deeper and longer.
  - Recession dating: 2002 recession started in Q4, while 2008 recession started in Q2.
- Selected summary indicators comparing 2002 and 2008 recessions:
  - Average annual GDP growth (for eight quarters, from the first quarter of the recession): 2002 vs 2008 (chart reference in source).
  - IFO Business expectations at the beginning of the third quarter of the recession (October 2008, and April 2003 respectively): 90.3 and 81.4.
  - Corporate spreads: 1.3 and 3.2.

### Cross-border linkages and spillovers
- Germany has strong international linkages; spillovers into and from Germany are substantial.
- U.S. and European growth impulses have a significant bearing on German growth; Germany’s sharp response to the deceleration in world trade is evident.
- German slowdown lowers growth in the rest of Europe, which feeds back to Germany.
- Exposure to emerging markets:
  - From June 2007 to September 2008, German banks’ exposure to emerging markets via loans and credit derivatives doubled to about $450 billion.
  - This exposure represented 4 percent of all German banking assets and 12 percent of all German banks’ foreign claims.
  - A likely scaling back of German banks’ exposure to emerging markets would generate cascading spillovers.
- Sentiment spillovers:
  - Sentiment in the eurozone becomes more closely aligned when economic prospects worsen; today, sentiment is more tightly aligned than in the recent past.
  - German loss of confidence contributes to contagion of pessimism in the eurozone (common-factor variance explained charts in source).

### Inflation trends
- Inflation has remained contained and is expected to decline fast.
- Inflation rose mainly in the headlines, with core inflation remaining low; no evidence of second-round effects or wage spikes.
- Real wages dropped sharply when inflation rose.
- Projection: inflation is projected to decline from 2.8 percent in 2008 to below 1.0 percent in 2009.
- Downside risks to growth imply downside risks to inflation.
- Wage and productivity dynamics:
  - Productivity and Real Earnings Per Hour Worked (annual percent change, seasonally adjusted): charts indicate slowed productivity growth and moderate wage pressures.
  - Wages (annual percent change; except 2008): negotiated, actual, and drift series shown in source.
- Box 2 — Pass Through from Global Fuel and Food Prices (1995–2008 transmission coefficients, international to domestic commodities prices and domestic commodities to core inflation):
  - Germany: Food 0.11, Fuel 0.28, Food 0.22, Fuel -0.02
  - France: Food 0.05, Fuel 0.24, Food 0.61, Fuel 0.02
  - Italy: Food 0.07, Fuel 0.20, Food 0.43, Fuel -0.03
  - UK: Food 0.16, Fuel 0.23, Food 0.27, Fuel -0.03
  - US: Food 0.09, Fuel 0.38, Food 0.00, Fuel 0.01
  - Memorandum item, Advanced economies: Food 0.06, Fuel 0.23, Food 0.20, Fuel 0.01

### Risks to financial stability: vulnerabilities and performance
- As of end-September 2008, Germany accounted for about a quarter of European bank write downs; about two thirds of these write downs were in public or quasi-public sector banks.
- Two large private banks—Hypo Real Estate and Commerzbank—sought assistance through the government’s financial stabilization package.
- Key system vulnerabilities:
  - The rollover of wholesale funding: funding conditions remain tight; bunching of maturing debt obligations creates rollover risk.
  - The availability of adequate capital buffers: low absolute capital levels will be further stressed as profits fall and asset quality worsens with the economic slowdown.

### Funding pressures and covered bonds
- German banks increased demand for wholesale funding during 2004–2007; these funding sources contracted sharply starting in mid-2007 and especially since early 2008.
- Continued risk that market liquidity will not be rolled over presents an important short-term vulnerability; concerns were especially manifest in Hypo Real Estate.
- Covered bond (Pfandbrief) market:
  - German covered bonds, historically considered almost as safe as Bunds, experienced increasing spreads since spring 2008 and stabilized at historically-high levels after the sharp rise in September 2008.
  - Trading in the secondary Pfandbrief market nearly halted since early September 2008; bondholders used Pfandbrief positions as collateral for central bank liquidity.
  - Planned issues of covered bonds were cancelled or cut in volume as primary market demand shrank; wholesale investors preferred government-guaranteed debt.
- Germany: Securitized Asset Issuance (billion U.S. dollars) shows declining issuance in 2008 YTD across CDO, ABS, MBS categories (chart reference in source).
- Covered bond market spreads and issuance charts indicate that even in the covered bond market, liquidity has dried up.

### Capital adequacy, profitability, and market-based distress indicators
- At about 4½ percent, the equity-to-consolidated assets ratio of the German banking system is low even by European standards.
- The gap between risk-weighted capital ratio and leverage ratio is particularly large for big commercial banks, the Landesbanken, and mortgage banks due to favorable risk weighting under regulatory guidelines.
- Bank profits fell sharply by mid-2008 and are likely to remain low in 2009; worsening asset quality will increase provisioning needs and the need for additional capital.
- Operating Profit (2007 vs 2008, end-June) for selected private banks shows marked declines (chart reference in source).
- Selected country banking sector indicators (end-2007, in percent):
  - Bank Regulatory Capital to Risk-Weighted Assets: France 10.1, Italy 10.4, Japan 12.9, Spain 11.4, UK 12.6, US 12.8, Germany 12.9
  - Bank Capital to Assets: France 5.5, Italy 7.7, Japan 5.0, Spain 7.0, UK 7.9, US 10.3, Germany 4.3
  - Bank Nonperforming Loans to Total Loans: France 2.7, Italy 4.8, Japan 1.5, Spain 0.7, UK 0.9, US 1.4, Germany 2.7
  - Bank Provisions to Nonperforming Loans: France 61.4, Italy 49.5, Japan 28.8, Spain 20.4, UK 204.8, US ... , Germany 93.1, 77.3 (table entries as in source)
  - Bank Return on Assets: France 0.4, Italy 0.7, Japan 0.2, Spain 1.1, UK 0.4, US 0.8, Germany 0.2
  - Bank Return on Equity: France 9.8, Italy 9.7, Japan 3.2, Spain 19.9, UK 6.2, US 7.8, Germany 4.7
  - Loan-Deposit Ratio: France 58.6, Italy 126.5, Japan 75.7, Spain 102.7, UK 71.4, US 104.1, Germany 66.0
  - Short-term Funding Ratio: France 26.6, Italy 8.4, Japan 7.5, Spain 5.8, UK 23.5, US 19.2, Germany 30.7
  - Tier 1 Capital to Total Capital: France 63.8, Italy 82.2, Japan 80.4, Spain 69.7, UK 61.1, US 88.4, Germany 68.6
  - Off-balance Sheet Items to Total Liabilities: France 25.2, Italy 10.9, Japan 2.8, Spain 24.9, UK 54.1, US 192.9, Germany 16.0
- Market-based indicators:
  - Market assessments of default probabilities on bank debt increased since start of the crisis in July 2007.
  - Banking Sector: Market-Based Estimated Default Probability (factor analysis, in percent) rose through 2008 (chart reference in source).
  - German banks show low return on equity and low price-to-book value ratios relative to peers (selected banks comparison as of Nov. 21, 2008).
  - Implied ratings of banks fell sharply between January 2007 and November 2008:
    - January 2007 (asset-weighted, S&P scale): Share of investment grade-rated banks: 84% (AAA-AA 3.9%, A 43.7%, BBB 35.4%, BB 14.1%, B 1.4%, CCC 1.5%)
    - November 2008 (asset-weighted, S&P scale): Share of investment grade-rated banks: 74% (AA 12%, A 1%, BBB 61%, BB 26%)

*Italic: IMF staff report excerpt (section title as provided).*

### 20.      Looking ahead, the economic slowdown will generate further pressures. The

### _cr0915 - 20.      Looking ahead, the economic slowdown will generate further pressures.

### Economic outlook and nonfinancial sector
- Relatively low debt ratios of companies and households and the significant role of retail deposits in the funding of banks will continue to cushion the impact of the current shocks.
- Low debt ratios have been accompanied by modest increases in equity prices and flat house prices.
- The nonfinancial sector is now more broadly affected than during earlier stages of the crisis.
- Borrowing costs for nonfinancial corporates, especially for lower-quality borrowers, have increased sharply as perceptions of default probabilities have increased.
- Increased borrowing costs have occurred across sub-sectors including construction, automobiles, engineering, and chemicals, and have affected not only low-grade entities but also highly-rated corporates.

### Financial Market Stabilization Fund (FMSF) and stabilization package
- The FMSF is the conduit for a €100 billion package available until December 31, 2009.
- Package composition:
  - €20 billion as provision to back up guarantees of up to €400 billion to secure market borrowings by banks.
  - Up to €80 billion for capital injections or purchase of assets.
- Guarantees are available for select newly issued debt securities and liabilities with maturities of up to 36 months.
- Guarantees and political commitment to protect household depositors are intended to alleviate rollover and funding risks; capital injections address banks’ capital needs and solvency concerns.
- Länder will share 35 percent of the costs (although capped at € 7.7 billion) and, in addition, will absorb the costs associated with the Landesbanken.
- The package has helped calm markets as reflected in declines in banks’ CDS spreads from their peaks, though spreads remain elevated.
- Examples of use or intended use:
  - Hypo Real Estate has drawn on the guarantee window.
  - Commerzbank is to receive capital support in the form of a silent participation and can call on guarantees.
  - Several Landesbanken have publicly expressed interest in assistance from the FMSF.

### Policy stance and conditionality
- German approach described as more hands off compared with the U.S. and the U.K.; authorities rely on banks’ assessments when seeking public assistance.
- Conditionality associated with FMSF assistance appears milder than in the U.K. but more stringent than in the U.S.
- Authorities can provide Tier I capital through silent participations that do not dilute existing shareholder positions; this may need revision on a case-by-case basis to more aggressively dilute shareholders if significant additional losses are identified.
- Recommendation: support viable banks while providing incentives for recourse to private capital markets; ensure regular financial reporting and audits for transparency and accountability.
- A speedy review of individual cases by DG Competition of the European Commission will provide needed legal certainty to transactions.

### Restructuring Landesbanken
- The economic role of the Landesbanken is in question due to imprudent investments and a wholesale funding approach that poses serious viability and systemic stability risks.
- Restructuring options should include downsizing, separating into “good” banks and “bad” banks, and incorporating the “good” banks to enable introduction of private capital.
- Proposals to combine troubled institutions need careful assessment because larger troubled banks could pose greater systemic problems.
- Authorities agree Landesbanken must be restructured and believe the Länder, as principal owners, must take the initiative.
- Staff recommended that SoFFin could work with the Landesbanken and their owners to break the impasse.

### Strengthening the safety net and deposit insurance
- Reforms for early intervention and effective bank resolution are essential; current German bank resolution framework is not aligned with sound international practices or the Financial Stability Forum (FSF) recommendation for a broad range of resolution tools.
- Legal constraints from the general corporate legal regime limit the authorities’ ability to take quick decisive actions to limit shareholders’ rights in bank resolution.
- The stabilization package allows for speedy shareholder dilution in recapitalizations; these powers need to be broadened beyond the 50 percent dilution currently allowed for the FMSF.
- Deposit insurance concerns and deficiencies identified:
  - Lack of public awareness about coverage and features (including financial strength and legal obligations) created incentives for sudden movements of deposits between sector segments.
  - Coverage under statutory schemes is cited as (€20,000; 0.7 times GDP per capita) and is low by international comparison; includes a coinsurance element that risked undermining depositor confidence.
  - Time limits for depositor reimbursements under statutory schemes are rather long and prevent prompt access to deposits; reimbursement initiated by a declaration by BaFin should be completed within 3 months (an extension for another 3 months is possible).
- Boxed description of existing fragmented deposit protection:
  - Commercial banks: statutory scheme—coverage (€20,000 /90 percent of deposits per depositor and bank) with reimbursement completed within 3 months (extension possible for another 3 months).
  - Commercial banks: private scheme—additional coverage amounting to 30 percent of the bank’s capital per depositor; resources reportedly amounting to € 4.6 billion in September 2008; ex post burden-sharing parameters unclear.
  - Savings banks (Sparkassen) and Landesbanken—partial ex ante funding (risk-based) under regional arrangements plus ex post burden-sharing including contributions from local authorities; inter-regional and master arrangements provide further support (without legal obligation).
  - Public banks (other than savings banks and Landesbanken) have their own statutory and private schemes administered by the Association of German Public Sector Banks.
  - Cooperative banks (Volks- und Raiffeisenbanken)—protection scheme intended to protect cooperative banks in their entirety; ex ante funding (risk-based) complemented by limited guarantees; no legal obligation to provide assistance; Association leads in resolving failed member banks typically via purchase-and-assumption transactions or mergers.
  - While financial statements for various schemes must be submitted to BaFin and the Bundesbank, no information on their actual financial strength is publicly available.
- Recommended step forward:
  - Creation of a single fund for statutory deposit insurance coverage spanning the pillars of the German banking sector to replace funds run by various associations, providing unified terms of coverage and enhanced transparency and legal certainty.
  - More ex ante funding of deposit insurance is preferable to the current predominantly ex post practice to avoid procyclicality in downturns.
  - Evolving EU rules should guide policies: increasing minimum coverage under statutory schemes initially to €50,000 and possibly to €100,000 when adopted as the EU minimum; procedures to facilitate prompt access to insured deposits.
  - Recommendation to remove the coinsurance feature of statutory schemes in light of experience with Northern Rock and subsequent removal of coinsurance in the U.K., Estonia, and others.
  - Allow supplementary coverage provided it does not compromise transparency.

### Prudential regulation, supervision, and institutional arrangements
- Authorities are taking steps to implement Pillar II of Basel II and introduce recommendations responding to the recent crisis.
- European Capital Requirements Directive (CRD) consultation paper identifies three salient issues: a college of supervisors for cross-border banks, capital requirements for securitization, and binding limits on interbank exposures.
- Enhanced capital requirements for securitization will force German banks that recently engaged heavily in these transactions to reflect this in prudential returns and draw supervisors’ attention.
- FSF recommendations requiring attention include review of banks’ liquidity contingency plans, sharing crisis management experience with other countries’ authorities, and consistent approaches to liquidity for cross-border banks.
- Authorities indicated salaries at BaFin are at the lower end of supervisory compensation in Europe, which could impede acquiring expertise to oversee complex risks and new challenges.
- Case for tighter bank regulatory and supervisory process:
  - Significantly reduced reliance on external auditors to avoid delays in identifying financial stress.
  - Link prudential regulation and supervision to a system of macro-surveillance and stability analysis.
  - As recommended by the FSF, Bundesbank would need ready access to firm level supervisory information to facilitate emergency liquidity support activities.
- Alternative structural approaches under consideration:
  - Place all prudential oversight under the authority of the Bundesbank (would require assurance of operational independence).
  - Place all supervision in BaFin (but compensation limits could become problematic given scarce specialized skills for Basel II implementation).
  - Explore the “twin peaks” model separating prudential and market conduct supervision (as used by Dutch authorities).
- Authorities plan to retain the “integrated supervisor” model but intend to undertake a more detailed review by March 2009.

### Competitiveness assessment
- Authorities agree Germany enjoys a small competitiveness advantage, though CGER methodology yields divergent assessments.
- Simple average of three approaches gives a competitiveness advantage (margin) of 5½ percent.
- Macro-balances approach gives about 4 percent competitiveness advantage and is viewed by staff as best reflecting German conditions.
- External sustainability approach may overstate the competitiveness advantage because it treats the "equilibrium" current account surplus as that needed to maintain net foreign assets at the current level.
- The ERER measure based on CPI-based REER may not be appropriate for Germany; manufacturing ULC-based REER better tracks competitiveness given 85 percent of German exports are in manufacturing.
- Since 2003, current account balance has improved consistent with continued real depreciation in the ULC-based REER, while the CPI-based REER has appreciated.
- Germany has gained relative to other advanced economies including those in the eurozone, but continued to lose ground to lower-wage economies despite wage moderation and product differentiation efforts.
- Wage claims are likely to resurface and productivity gains are not assured.

*Source: _cr0915 - 20.      Looking ahead, the economic slowdown will generate further pressures.*

### 35.      Following impressive expenditure-based consolidation in prior years, the

### Following impressive expenditure-based consolidation in prior years, the headline deficit is set to be balanced in 2008.

### Fiscal position and short-term outlook (2008–2009)
- Headline deficit: set to be balanced in 2008.
- 2008 pressures on the deficit:
  - Revenue losses of about ½ percent of GDP resulting from corporate income tax reform and the reduction in unemployment contributions.
  - Increase in civil service wages of one-tenth percent of GDP.
  - Offsetting factors: cyclical gains in revenues and reduced social benefits with higher employment.
- Earlier bank rescue measures raised the deficit; the recent financial sector stabilization package has not had an impact on the deficit since the support leads to an acquisition of a financial asset, but it implies higher public debt that finances the support.
- For 2009:
  - Policy measures approved in fall 2008 (raise social benefits, change social security contributions, provide investment incentives) expected to raise the deficit by about 0.2 percentage point of GDP in 2009.
  - Cyclical deterioration expected to have the bigger impact: general government deficit expected to be 1.1 percent of GDP.
  - Authorities project the deficit at ½ percent of GDP; with likely revisions their projection will be close to staff’s projection.
- Selected fiscal aggregates (percent of GDP; years and projections as presented):
  - Overall balance: 2003 -4.0; 2004 -3.8; 2005 -3.3; 2006 -1.5; 2007 -0.2; 2008 0.0; 2009 -1.1 (Proj.).
  - Revenue: 2003 44.5; 2004 43.3; 2005 43.5; 2006 43.8; 2007 43.9; 2008 44.0; 2009 44.1.
  - Direct taxes: 2003 10.4; 2004 10.0; 2005 10.1; 2006 10.8; 2007 11.2; 2008 11.1; 2009 11.1.
  - Indirect taxes: 2003 11.8; 2004 11.8; 2005 11.8; 2006 12.1; 2007 12.6; 2008 12.5; 2009 12.5.
  - Primary expenditure: 2003 44.0; 2004 42.8; 2005 42.7; 2006 41.1; 2007 39.9; 2008 39.9; 2009 41.1.
  - Social benefits: 2003 27.5; 2004 26.8; 2005 26.6; 2006 25.8; 2007 24.6; 2008 24.8; 2009 25.7.
  - Pensions (of which): 2003 12.5; 2004 12.3; 2005 12.2; 2006 11.8; 2007 11.4; 2008 11.2; 2009 11.6.
  - Health (of which): 2003 7.7; 2004 7.4; 2005 7.5; 2006 7.4; 2007 7.4; 2008 7.5; 2009 7.7.
  - Structural balance: 2003 -3.2; 2004 -2.6; 2005 -2.2; 2006 -1.2; 2007 -0.2; 2008 -0.5; 2009 -0.6.

### A. Fiscal Stimulus: size, composition and effectiveness
- 2008: moderate fiscal stimulus largely from tax breaks.
- 2009: severe macroeconomic downturn expected to precede deterioration of the tax base; agreed wage increases under 2008 wage rounds partly buoy the tax base, creating a structural fiscal improvement that is offset by stimulus packages announced in early October and early November; structural deficit broadly stable—broadly neutral fiscal stance expected for 2009.
- Staff recommendation for 2009 (assuming multipliers of 0.4-0.5): bringing GDP growth to zero in 2009 would require a frontloaded fiscal stimulus of 1½ to 2 percent of GDP.
  - Authorities’ concerns: such stimulus could open door to demands from diverse lobbies, undermine consolidation, and be ineffective if multipliers are smaller.
  - Staff response: weigh those risks against threat of a self-reinforcing costly loss in output; stimulus more effective if German actions are part of a joint European effort due to trade, financial, and sentiment spillovers.
- Illustrative fiscal stimulus package (in percent of GDP and in billions of euros as presented):
  - One-off payments to low-income households 3.6.
  - Accelerated health care reform 10.0 8.5.
  - Accelerated public investment 24.9 0.5.
  - Authorities' Fall 2008 fiscal measures 4.8 14.8.
  - Total 3.6 39.7 23.8 (presented with line "in percent of GDP" and "(in billions of euros, unless otherwise specified)").
- Lessons and practical implications for Germany (staff assessments):
  - Private investment incentives (accelerated depreciation) and increased lending through KfW unlikely to raise investment while business confidence is low.
  - Transfer payments to vulnerable households: large cost-effectiveness, short lag, small uncertainty; targeted via means-tested social benefits.
  - Bringing forward reduction in social security contributions by increasing immediately the federal government contribution to the Health fund: large cost-effectiveness, small lag, small uncertainty; raises take-home wages and supports potential growth.
  - Accelerating maintenance investment and infrastructure projects already in pipeline: large cost-effectiveness, medium lag, small uncertainty; may require federal top-up payments to municipalities.
  - VAT reduction considered less appropriate: would raise policy uncertainty by reversing 2007 hike and counteract long-term move towards indirect taxation.
- Authorities’ stance: cautious about transfer payments’ efficacy; agreed that lowering social security contributions and accelerating public infrastructure projects are sensible and could be part of a package if needed; for the time being will monitor the situation and effectiveness of announced measures.

- Fiscal Stimulus Measures—cost-effectiveness, lags and uncertainty (approximate ordering and characteristics):
  - Expenditures:
    - One-off transfer payments to low-income households through social benefit system: Large cost-effectiveness; Short lag; Small uncertainty. Advantage: existing system identifies low-income households. Disadvantage: political pressures to continue payments.
    - Targeted transfers to cash-strapped state and local governments: Large; Short; Small. Advantage: likely to be spent rapidly. Disadvantage: political pressures to continue payments.
    - Targeted public investment program on projects that can be rolled out and finished quickly: Large; Medium; Small. Disadvantage: tends to take 2-3 quarters to develop and enact; can be mitigated by maintenance projects and accelerating advanced-stage projects.
    - Incentives for new investment: Small; Medium; Large. Disadvantage: may be delayed and ineffective given low business confidence; difficult to repeal.
  - Revenues:
    - Reduce social security contributions by raising federal transfer to Health Fund to full amount planned for 2016: Large; Small; Small. Advantage: implementation already planned for 2016; raises take-home wage of poorer households. Disadvantage: benefit increases with income.
    - Withholding holiday for employee social security contributions: Medium; Medium; Large. Advantage: increase in take-home pay effective; Disadvantage: households may save increase in anticipation of end-of-year payment.
    - Income tax rebate: Large; Medium; Large. Disadvantage: rebate proportional to tax liability is less well-targeted; processing delays.
    - Extending operating loss and carry-back provisions: Small; Medium; Large. Advantage: eases cash constraints; Disadvantage: little effect in itself.
  - Note: "Short" means less than 1/2 a year; "Medium" means 1/2-1 year; "Long" means more than 1 year.

### B. Ensuring long-term fiscal sustainability
- Recommitment to a fiscal rule needed: authorities aim to amend the Basic Law to establish a rule that limits the structural budget balance to close to zero from 2011; staff stressed rule should apply to the states as well.
  - Purpose: provide mechanism to regain lost ground and underpin ambitious initiatives to achieve fiscal sustainability as recovery begins.
  - Additional measures to consider: reintroduction of a wealth tax, greater flexibility in the retirement age, cost efficiencies especially in health care and fiscal decentralization.
- Public debt projections and risks:
  - Authorities estimate under a benign scenario public sector debt could stabilize at about 10 percent of GDP.
  - Staff projections (including recent pension increases above established formula) caution public sector debt could reach 50 percent of GDP.
  - If downside fiscal risks materialize without prompt offsetting measures, public sector debt could quickly rise manifold.
  - Particular risk sources: healthcare costs due to aging population.
- Debt simulations (2004–2050): scenarios vary greatly with aging cost assumptions; results indicate significant variation depending on aging costs and adjustment speed.
- Health sector cost containment:
  - Further cost savings possible beyond 2007 healthcare reform, notably in pharmaceutical expenditures and stronger incentives for efficiency-enhancing competition.
  - From 2009, a Health Fund financed by federal budget and individual contributions will allocate funds to insurers; insured required to pay fees directly to insurers, on average five percent of the total estimated costs for the year.
  - This setup provides some incentives to insurers to reduce costs but also incentives to attract the healthier and wealthier; OECD suggested alternative fee structures may create stronger cost-saving incentives.
  - Authorities recognize continued efforts needed to ease healthcare cost pressures.
- Role of states in consolidation:
  - States have added to public debt accumulation; cooperative system of uniform spending standards and equalizing transfers has muted incentives for fiscal discipline.
  - Two features of subnational financing: own-source revenue < 2 percent of total state revenue; extensive transfers including horizontal transfers (totaling 0.3 percent of GDP in 2007) and supplementary federal grants (0.6 percent of GDP in 2007).
  - Consequences: soft budget constraint and pro-cyclical spending by net-recipient states.
  - Suggested reforms:
    - Structural-deficit or expenditure-based fiscal rules at federal and state levels.
    - Surveillance mechanism with consistent reporting standards.
    - Increased state-level tax autonomy to strengthen revenue incentives and reduce dependence on federal grants.
  - Authorities welcomed staff support for a fiscal rule and broader federalism reform but saw limited scope for progress during this legislative period.

### Financial sector, deposit protection and regulatory recommendations
- Financial Market Stabilization Fund (FMSF):
  - Has been vital to shielding the financial sector; Germany’s approach is voluntary and banks may choose from a range of stabilization measures.
  - Given low absolute capital in several banks, staff advocates more proactive recapitalization in view of expected asset quality deterioration.
  - SoFFin (agency administering FMSF) could use its authority more broadly to enhance financial sector soundness.
  - Proactive restructuring and downsizing of Landesbanken requires early attention; SoFFin could work with Landesbanken on this.
  - Authorities should have ability to act expeditiously under a special bank resolution regime; moves have been made allowing dilution of shareholder rights for recapitalizations under SoFFin; further legal framework modifications for orderly bank resolutions are warranted.
- Deposit protection:
  - Multiple protection schemes rely on ex post burden-sharing, elevating risks in stress periods.
  - Recommendation: introduce a base layer of mandatory deposit insurance—ex ante funded by contributions from all banks—to provide unified protection terms and reduce incentives to shift deposits among schemes.
  - Evolving EU rules should guide deposit insurance policy.
- Regulatory and supervisory process:
  - Case for tighter bank regulatory and supervisory process strengthened.
  - Supervisors need better, prompt information on bank soundness—reducing reliance on external auditors.
  - Prudential regulation and supervision should be linked to macro-surveillance and stability analysis.
  - Greater consolidation of regulatory and supervisory resources could yield significant benefits.

### VII. Staff appraisal — macroeconomic outlook and policy coordination
- Outlook and risks:
  - Germany faces a sizeable, possibly extended economic downturn.
  - After GDP contraction in Q2 and Q3 2008, further four quarters of negative GDP growth and sluggish recovery appear likely.
  - Projection: 2009 GDP fall of 0.8 percent; 2010 growth of 0.5 percent, well below potential of about 1½ percent.
  - Risk of corporate and financial sector stresses becoming intertwined; longer global shocks would deepen and prolong weakness.
- Policy coordination:
  - Given strong spillovers, internationally coordinated policy measures will be more effective to contain risk of self-reinforcing slump.
  - Continued actions to strengthen the financial safety net will buttress initiatives; Germany’s request for an FSAP update is timely.
  - A similar risk-management philosophy should apply to fiscal policy.

*Source: IMF staff report excerpt (pages and tables as presented in the supplied content).*

### 49.      Additional significant fiscal stimulus that is frontloaded, well targeted, and

### _cr0915 - 49.      Additional significant fiscal stimulus that is frontloaded, well targeted, and

### Immediate fiscal stimulus: size, timing, and composition
- Finding: Additional significant fiscal stimulus that is frontloaded, well targeted, and internationally coordinated is necessary.
- Finding: Following sustained fiscal prudence, the authorities have rightly taken steps to stimulate the economy, but their net size, timing, and focus on bolstering private investment imply that the immediate benefit will be limited.
- Key statistic: Bringing GDP growth to zero in 2009 would require a fiscal stimulus of 1½ to 2 percent of GDP.
- Recommendation: Such an effort would be particularly effective if German actions were part of a joint European effort to bolster demand.
- Recommended sequencing for German stimulus measures:
  - Initiate transfer payments to vulnerable households to impart an immediate demand impulse.
  - Follow with bringing forward the proposed reduction in social security contributions to lower labor taxation.
  - Accelerate infrastructure projects, possibly through top-up federal payments to local communities.
- Recommendation (negative): A value-added tax rate reduction would be less appropriate.

### Fiscal sustainability and institutional reforms
- Finding: These actions must be accompanied by a credible long-term commitment to fiscal sustainability. This remains a concern, especially regarding trends in healthcare costs and the debt accumulation by the states.
- Policy measures to contain healthcare costs:
  - Further rationalization of pharmaceutical expenditures.
  - Strengthened efficiency-enhancing competition.
- Subnational fiscal discipline:
  - More states taxation autonomy and a redesign of supplementary federal grants are required to improve states incentives for fiscal discipline.
- Fiscal rule:
  - The proposed fiscal rule, limiting the structural budget balance to close to zero, should be applied also to the states, and would help regain lost ground and ensure fiscal sustainability.

*Source: IMF staff assessment excerpt.*

### 51.      It is proposed that the next Article IV consultation be held on the standard 12-month

### _cr0915 - 51.      It is proposed that the next Article IV consultation be held on the standard 12-month cycle.

### Credit Market Developments
- Loans to the Private Sector: annualized growth rates (seasonally adjusted, percent) series shown for Jan-00 to Jan-08 with plotted 12-month and 6-month series; caption: "Credit growth may be beginning to slow."
- Loans to the Private Sector (continued to year-on-year growth, percent): series for 2004–2008 by loan type: "Housing loans", "Other loans to households", "Loans to financial enterprises", "Loans to non-financial enterprises", "All banks".
- Lending to Domestic Non-Financial Enterprises (continued to year-on-year growth, percent): series Mar-00 to Mar-08 by institution: "Big banks", "Landesbanken", "Regional banks", "Subsidiaries of foreign banks", "Savings banks", "Cooperatives", "Other banks", "All banks".
- Summary captions:
  - "Despite the decline, credit growth to nonfinancial enterprises was relatively robust."
  - "All types of lending institutions have contributed to credit growth."

### Probabilities of Default by Sector (Figure 2)
- Source: Bloomberg, Fund staff estimates.
- Financial Sector probabilities of default (in percent) series from 10/22/07 to 10/22/08 for: "Banks", "Insurance companies", "Investment Management".
- Industry probabilities of default (in percent) series from 10/22/07 to 10/22/08 for sectors including "Automotive Sector", "Consumer Durables", "Consumer Products", "Machinery and Equipment", "Steel and Metal Products" plotted against S&P rating scale AAA, A, AA, BB, BBB, B.
- Construction sector probabilities of default (in percent) series from 1/31/06 to 9/30/08 plotted against S&P rating scale AAA-A, BB, BBB, B.

### Balance Sheets of Nonfinancial Corporates (Figure 3)
- Source: Bundesbank.
- Financial Net Worth (In percent of GDP): series 1991 1.Q to 1.Q 2008 with caption: "Corporates enter this recession with lower net worth, ..."
- Money Market Paper and Short-Term Loans: series 1991 1.Q to 1.Q 2008 with two scales: "In percent of GDP" and "In percent of total liabilities (right scale)"; caption: "... but fewer short-term liabilities, ..."
- Capital Position: series 1994–2005 with metrics "Capital in percent of assets" and "Long-term capital in percent of fixed assets (right scale)"; caption: "... a better capital position, ..."
- Liquidity Position: series 1994–2005 with metrics "Liquid assets in percent of short-term liabilities" and "Cash flow in percent of external financing (right scale)"; caption: "... and greater liquidity."

### Spillovers to Central and Eastern Europe (Figure 4)
- Source: Bundesbank, BIS, Direction of Trade Statistics.
- Exports to Germany from New Central and Eastern European Member States (In percent of source countries' GDP) series 1998–2006, rising trend; caption: "Eastern Europe's dependence on exports to Germany has risen and is especially large in the Czech and Slovak Republics and Hungary."
- Stock of German FDI Assets, 2006 (In percent of recipient country GDP): bars for Hungary, Czech, Slovakia, Poland, Romania, Latvia, Lithuania, Bulgaria, Estonia, Slovenia, Russia; caption: "The Czech and Slovak Republics and Hungary rely particularly heavily on German FDI."
- Sales Generated by German FDI Assets, 2006 (In percent of recipient country GDP): bars for Czech, Hungary, Slovakia, Poland, Bulgaria, Romania, Slovenia, Estonia, Lithuania, Latvia, Russia.
- Claims of BIS-Reporting Western European Banks on Eastern European Creditors, Nov. 2008 (In percent of debtor country GDP): bars for Hungary, Latvia, Poland, Lithuania, Czech Republic, Estonia, Russia, Ukraine, Turkey with creditor-country breakdown: Germany, Austria, Italy, France.
- Claims of BIS-Reporting German Banks on Eastern European Creditors, November 2008 (In percent of German banking system assets): bars for Poland, Russia, Hungary, Turkey, Czech Republic, Ukraine, Latvia, Slovak Republic, Romania, Lithuania.
- Exports to Germany, 2007 (In percent of exporter's GDP): bars for Czech Republic, Hungary, Slovak Republic, Slovenia, Poland, Bulgaria, Lithuania, Romania, Estonia, Latvia.
- Summary captions:
  - "Eastern Europe's dependence on exports to Germany has risen and is especially large in the Czech and Slovak Republics and Hungary."
  - "The Czech and Slovak Republics and Hungary rely particularly heavily on German FDI."
  - "While German banks' exposure to Eastern European banks is limited, the Hungarian, Latvian, and Polish banking systems are exposed to German banks."

### Key National Data Snapshot
- Total area: 357,041 square kilometers
- Total population (2007): 82.2 million
- GDP per capita (2007): US$ 40,400

### Selected Economic Indicators (Table 1 highlights)
- Demand and supply (percentage change, selected years and IMF staff projections noted as 1/):
  - Private consumption: series includes -0.8, 0.1, 0.1, 0.2, 1.0, -0.4, -0.2, -0.3, 0.1
  - Public consumption: series includes 1.5, 0.4, -0.7, 0.4, 0.6, 2.2, 2.7, 2.5, 2.0
  - Gross fixed investment: series includes -6.1, -0.3, -0.3, 1.1, 7.7, 4.3, 5.4, -2.7, -0.5
  - Total domestic demand: -2.0, 0.6, -0.1, 0.0, 2.1, 1.1, 1.5, 0.4, 0.4
  - Exports of goods and nonfactor services: 4.3, 2.5, 10.2, 7.7, 12.7, 7.5, 4.6, -1.5, 3.7
  - Imports of goods and nonfactor services: -1.4, 5.4, 7.3, 6.5, 11.9, 5.0, 4.8, 1.0, 4.0
  - GDP: 0.0, -0.2, 1.2, 0.8, 3.0, 2.5, 1.7, -0.8, 0.5
  - Output gap (In percent of potential GDP): -0.2, -1.7, -1.9, -2.3, -0.8, 0.4, 0.9, -1.0, 0.0
- Employment and unemployment:
  - Labor force: series around 42.5–43.5 (millions)
  - Employment: series around 39.0–39.9 (millions)
  - Unemployment 3/: series 3.5, 3.9, 4.2, 4.6, 4.2, 3.6, 3.2, 3.6, 3.7
  - Unemployment rate (in percent) 4/: 7.7, 8.8, 9.2, 10.6, 9.8, 8.4, 7.3, 8.3, 8.5
- Prices and incomes:
  - GDP deflator: 1.4, 1.2, 1.0, 0.7, 0.5, 1.8, 1.3, 1.1, 1.0
  - Consumer price index (harmonized): 1.4, 1.0, 1.8, 1.9, 1.8, 2.3, 2.8, 1.0, 0.8
  - Average hourly earnings (total economy): 2.0, 1.7, 0.4, 1.0, 1.1, 1.4, 1.0, 0.7, 0.2
  - Unit labor cost (industry): 1.5, -1.3, -3.1, -4.2, -4.0, -3.1, -0.6, -0.8, -1.3
  - Personal saving ratio (in percent): 9.9, 10.3, 10.4, 10.6, 10.5, 10.8, 11.4, 11.6, 11.5

### Public Finances (Table 1, selected lines)
- General government expenditure (in billions): 1,031; 1,049; 1,041; 1,050; 1,052; 1,069; 1,097; 1,129; 1,152
  - (In percent of GDP): 48.1, 48.5, 47.1, 46.8, 45.3, 44.1, 44.0, 45.2, 45.4
- General government revenue (in billions): 953; 962; 958; 976; 1,016; 1,065; 1,098; 1,102; 1,108
  - (In percent of GDP): 44.4, 44.5, 43.3, 43.5, 43.8, 43.9, 44.0, 44.1, 43.7
- Overall balance (in billions): -78; -87; -84; -74; -36; -41; -27; -45
  - (In percent of GDP): -3.7, -4.0, -3.8, -3.3, -1.5, -0.2, 0.0, -1.1, -1.8
- Structural balance (in percent of potential GDP): -2.9, -3.2, -2.6, -2.3, -1.2, -0.2, -0.5, -0.6, -1.0
- Federal government overall balance (in billions): -36; -40; -51; -57; -30; -19; -15; -30; -41
  - (In percent of GDP): -1.7, -1.8, -2.3, -2.6, -1.3, -0.8, -0.6, -1.2, -1.6
- General government debt (in billions): 1,278; 1,358; 1,430; 1,489; 1,533; 1,575; 1,706; 1,802; 1,847
  - (In percent of GDP): 59.6, 62.8, 64.7, 66.4, 66.0, 65.0, 68.4, 72.1, 72.8

### Balance of Payments (selected)
- Trade balance 8/ (in billions): 124.2; 118.8; 139.6; 144.4; 146.3; 189.2; 204.6; 195.5; 187.5
- Services balance (in billions): -35.7; -34.5; -29.3; -24.9; -15.6; -16.3; -15.8; -20.8; -23.6
- Factor income balance (in billions): -18.0; -15.1; 20.4; 25.7; 37.6; 42.0; 26.6; 13.0; 10.6
- Current account (in billions): 43.0; 44.0; 102.9; 116.6; 141.5; 184.2; 182.9; 155.1; 141.4
  - (In percent of GDP): 2.0; 2.0; 4.7; 5.2; 6.1; 7.6; 7.3; 6.2; 5.6
- Foreign exchange reserves (e. o. p.) 9/: 40.5; 32.5; 29.3; 33.7; 28.6; 27.7; 32.0; ... (note: data for 2008 refer to October)

### Monetary and Market Indicators (selected)
- Money and quasi-money (M3) 10/11/: ...3.5; 2.2; 5.2; 4.9; 10.6; 10.1; ...
- Credit to private sector 10/: 0.9; 0.0; -0.2; 2.2; 3.5; 3.2; 6.3; ...
- Three-month interbank rate 12/: 3.3; 2.3; 2.1; 2.1; 3.7; 4.8; 5.1; ...
- Yield on ten-year government bonds 12/: 4.8; 4.1; 4.1; 3.6; 3.8; 4.3; 4.0; ...
- Euro per US$ (annual average) 12/: 1.06; 0.88; 0.80; 0.80; 0.80; 0.73; 0.75; ...
- Nominal effective rate (1990=100) 13/: 104.7; 112.6; 115.7; 114.7; 114.9; 119.7; 117.5; ...
- Real effective rate (1990=100) 14/: 101.4; 105.9; 105.5; 102.2; 99.1; 97.9; 94.0; ...

### Foreign Claims of Banks on Individual Countries (Table 2 highlights)
- BIS consolidated lending-based totals (in billions of US dollars; November 2008):
  - All countries: Total 4,135.7; Loans 5,561.7; Credit derivatives 4,619.3; Share of credit derivatives 942.4; 16.9 (presented as tabular mix)
  - In percent of total assets: 36.6; 49.2; 40.9; 8.3
  - In percent of GDP: 165.4; 222.4; 184.7; 37.7
- Mature market countries total: 3,690.0; 4,934.8; 4,072.7; 862.1; 17.5
- Emerging market countries total: 445.7; 584.1; 539.9; 44.2; 7.6
- Regional examples (Central and Eastern Europe): total claims 229.0; 196.7; 186.3; 10.4; 5.3 (in percent of total assets)
- Country-specific BIS claim examples (in billions or percent of assets as tabulated): Czech Republic, Hungary, Latvia, Lithuania, Poland, Romania, Russia, Slovakia, Turkey, Ukraine (detailed figures given in table).

### Financial Soundness Indicators for Banks (Table 3 highlights, In percent, 1999-2007)
- Regulatory capital to risk-weighted assets: 10.8, 10.9, 11.2, 11.9, 12.4, 12.4, 12.2, 12.5, 12.9
- Regulatory Tier I capital to risk-weighted assets 1/: 6.9, 7.0, 7.2, 7.8, 8.2, 8.0, 8.0, 8.2, 8.5
- Loans to households (sectoral distribution of loans to total loans): 31.2, 30.6, 29.7, 29.5, 29.7, 29.3, 28.5, 27.6, 25.6
- Loans to non-financial corporations: 17.3, 17.4, 17.1, 16.6, 16.0, 15.2, 14.5, 14.3, 14.1
- NPLs to gross loans: 4.1, 4.6, 4.5, 5.0, 5.2, 4.9, 4.0, 3.4, 2.7
- Return on average assets (after-tax): 0.2, 0.2, 0.2, 0.1, -0.1, 0.1, 0.3, 0.3, 0.2
- Return on average equity (after-tax): 6.5, 6.1, 4.6, 2.9, -1.5, 1.9, 9.2, 7.5, 4.7
- Interest margin to gross income: 73.2, 67.8, 69.8, 73.3, 70.2, 73.5, 68.2, 68.2, 72.9
- Liquid assets to total short-term liabilities (selected): 120.9, 121.1, 121.0, 123.5, 124.4, 122.0, 120.9, 119.4 (commercial banks and other subsectors present detailed series)

### Encouraged and Other Financial Soundness Indicators (Table 4 highlights, 1999-2007)
- Corporate sector:
  - Total debt to equity 1/: 81.0, 98.0, 106.5, 153.6, 131.6, 121.8, 111.6, 103.2, 96.5
  - Total debt to GDP 2/: 145.5, 160.7, 163.4, 165.9, 164.1, 155.1, 153.7, 155.4, 158.0
  - Return on invested capital 3/4/: 6.5, 6.3, 7.4, 8.7, 8.3, 8.9, 9.0, 8.6, 8.5
  - Number of applications for protection from creditors 1/: 18,006; 18,389; 21,019; 23,642; 23,840; 22,474; 19,540; 16,408; 13,599
- Deposit-taking institutions:
  - Capital to assets: 3.7, 3.7, 3.8, 4.1, 4.2, 4.0, 4.1, 4.3, 4.3
  - FX loans to total loans: 7.8, 9.3, 10.2, 9.6, 9.1, 9.6, 10.2, 10.5, 11.5
  - Customer deposits to total (non-interbank) loans: 63.5, 63.9, 64.0, 65.4, 67.1, 70.0, 71.8, 75.2, 76.2
- Households:
  - Household debt to GDP 1/: 72.9, 73.4, 72.7, 72.4, 72.5, 71.2, 69.9, 67.4, 63.8
  - Household debt service and principal payments to income 1/: 5.0/4.7, 5.1, 5.0, 4.7, 4.2, 3.9, 3.7, 3.8, 4.1
- Real estate markets:
  - Real estate prices, new dwellings 10/: 99, 100, 101, 102, 100, 100, 100, 101, 102
  - Real estate prices, resale 10/: 108, 108, 108, 105, 104, 102, 100, 100, 100
  - Residential real estate loans to total loans: 16.2, 16.4, 16.0, 16.2, 18.0, 17.8, 17.8, 17.7, 16.5
  - Commercial real estate loans to total loans: 6.4, 6.4, 6.2, 6.2, 6.6, 6.4, 6.1, 5.8, 5.4

### Medium-Term Balance of Payments (Table 5 highlights, projections 2009–2013)
- Current account (in billions): 117, 141, 184, 183, 155, 141, 144, 159, 180 (years 2005–2013 table format)
  - In percent of GDP: 5.2, 6.1, 7.6, 7.3, 6.2, 5.6, 5.5, 6.0, 6.5
- Trade balance (in billions): 144, 146, 189, 205, 196, 187, 189, 205, 233
  - Exports (in billions): 791, 904, 987, 1,039, 1,031, 1,077, 1,135, 1,214, 1,317
  - Imports (in billions): -646, -758, -798, -835, -835, -890, -946, -1,009, -1,084
- Capital and financial accounts (in billions): -136, -156, -225, -183, -155, -141, -144, -159, -180
  - FDI, net: -22, -32, -85, -57, -33, -27, -27, -28, -29
  - Portfolio investment, net: -40, -176, 365, 656, 668, 670, 7 (tabular presentation)
- Source: WEO.

### General Government: Government Operations and Balance Sheet (Table 6 highlights)
- Government revenue projections (in billions of Euros): 958; 976; 1,016; 1,065; 1,098; 1,102; 1,108; 1,134; 1,174; 1,215 (2004–2013 table)
- Current revenue (in billions): 948; 966; 1,007; 1,055; 1,088; 1,093; 1,098; 1,123; 1,162; 1,203
- Taxes (in billions): 481; 493; 531; 576; 589; 590; 588; 600; 621; 641
- Expense (in billions): 1,010; 1,019; 1,020; 1,033; 1,061; 1,091; 1,113; 1,137; 1,161; 1,191
- Net lending / borrowing (in billions): -84; -74; -36; -41; -27; -45; -42; -27; -17 (2004–2012)
- Public gross debt (Maastricht definition): 65.6, 67.8, 67.6, 65.0, 68.4, 72.1, 72.8, 72.2, 71.5, 70.8 (percent of GDP, 2004–2013)

### General Government Balance Sheet (Table 6 continued)
- Net financial worth (in billions): -1,047; -1,116; -1,117; -1,080; ...
- Financial assets (in billions): 466; 475; 494; 508; ...
  - Currency and Deposits: 148; 154; 190; 201; ...
  - Securities and shares: 149; 165; 175; 178; ...
- Financial liabilities (in billions): 1,513; 1,592; 1,611; 1,588; ...
  - Securities and shares: 1,049; 1,126; 1,151; 1,152; ...
  - Loans: 455; 456; 449; 426; ...
- Transactions, net (in billions): -84; -76; -38; 0; ...
- Net financial worth (in percent of GDP): -47.4; -49.8; -48.1; -44.6; ...

### Expenditures under Authorities' Stimulus Packages, October and November 2008 (Table 7)
- October package (2009/2010 items with amounts in millions of euros where specified):
  - Increased health insurance contribution from 14.9 percent to 15.5 percent of gross wages -- tax on employers' portion: 265; 530
  - Personal income tax deductibility of 20 percent of cost of household help: 80
  - Personal income tax deductibility of health care contributions: 78; 20
  - Increased child benefit by Euro 10 (Euro 16 for third child and more) and child tax deduction to Euro 6000 from Euro 5808: 2275; 2145
  - School start benefit of Euro 100 for first graders of parents who are social assistance recipients: 140; 140
  - Reduction in unemployment contribution from 3.3 to 2.8 percent: 4000; 3200
- November package:
  - Transport investment (water, rail, road): 1000; 1000
  - Income tax deductibility of handimen services: 900
  - Subsidy for energy-efficient building (expansion of existing KfW program): 422; 20
  - Other KfW-programs incl. regional lending for investment purposes: 73; 76
  - Degressive depreciation of 25 percent of investment in immovables: 1940; 4325
  - Temporary suspension of car excise tax to end-June 2009: 380; 135
  - Temporary special depreciation of capital market investment: 235; 370
  - Increased funds for Joint Taskforce for Improvement of Regional Economic Structure: 200; 100
  - Extension of short-term labor benefit from 12 to 18 months: 300; 300
- Contractionary measures (October 2008 package):
  - Reduction in unemployment contribution from 3.3 to 2.8 percent of gross wages -- tax on employers' portion: -65; -210
  - Increased health insurance contribution from 14.9 percent to 15.5 percent of gross wages: -6000; -6000
- Net fiscal stimulus (in millions of euros): 4785; 14831
  - (in percent of GDP): 0.2; 0.6

*Italic: IMF staff report content as provided in the source PDF excerpt.*

### ANNEX I. Germany: Fund Relations

### ANNEX I. Germany: Fund Relations

### Mission and Staff
- Mission: November 12 to 24, 2008 in Frankfurt, Bonn, and Berlin. The concluding statement of the mission is available at http://www.imf.org/external/np/ms/2008/112408.htm.
- Staff team: Mr. Mody (Head), Mmes. Carare, and Ohnsorge, (EUR) and Messrs. Seelig and Jobst (MCM), Mr. Stehn (FAD), and Ms. Luedersen (LEG).
- Country interlocutors: Bundesbank President Weber; Federal Financial Supervisory Authority (BaFin) President Sanio; State Secretaries Asmussen (Finance), and Pfaffenbach (Economy); members of the German Council of Economic Experts; senior representatives at the Chancellery, several ministries, the Bundesbank, and BaFin. Mr. von Stenglin, the Alternate Executive Director for Germany, also participated. Meetings included parliamentarians, Länder representatives, labor unions, employers, research institutes, and financial market participants.

### Fund Relations and Membership
- Previous Article IV consultation: February 22, 2008. The associated Executive Board’s assessment and staff report are available at http://www.imf.org/external/pubs/cat/longres.cfm?sk=21759.0.
- I. Membership Status: Joined August 14, 1952.

### General Resources Account (exact figures)
- II. General Resources Account: SDR Million % Quota
  - Quota: 13,008.20 100.00
  - Fund holdings of currency: 11,461.65 88.11
  - Reserve position in Fund: 1,546.61 11.89

### SDR Department (exact figures)
- III. SDR Department: SDR Million % Allocation
  - Net cumulative allocation: 1,210.76 100.00
  - Holdings: 1,426.90 117.85

### Outstanding Purchases, Loans, and Financial Arrangements
- IV. Outstanding Purchases and Loans: None
- V. Financial Arrangements: None

### Projected Payments to Fund (SDR Million; based on existing use of resources and present holdings of SDRs)
- VI. Projected Payments to Fund:
  - Charges/Interest: 0.09 0.09 0.09 0.09 (listed under 2009, 2010, 2011, 2012 respectively in table)
  - Total: 0.09 0.09 0.09 0.09 0.09 (rows for 2008–2012 indicate the same figures as in the source table)

### Exchange Rate Arrangement
- Germany’s currency is the euro, which floats freely and independently against other currencies.
- Germany is an Article VIII member and maintains an exchange system free of restrictions on payments and transfers for current international transactions.
- It maintains measures adopted for security reasons, which have been notified to the Fund for approval in accordance with the procedures of Decision 144 and does so solely for the preservation of national or international security.

### Anti-Money Laundering/Combating the Financing of Terrorism (AML/CFT)
- Authorities moved toward a more risk-based approach: intensity of audits and inspections should reflect institutions' AML/CFT risk.
- Dialogue with associations of certified public accountants and other auditors led to a revised AML/CFT assessment methodology in 2005.
- Legal revisions granted BaFin the power to freeze funds without a court order or other involvement of prosecution authorities if facts suggest that funds serve the purpose of terrorist financing.
- BaFin can require financial holding groups and financial conglomerates to develop a coordinated risk management approach for the whole group.
- An assessment under the international standard for AML/CFT will be conducted by the Fund's Legal Department in May 2009; it will address improvements of AML/CFT laws concerning non-bank financial institutions and concerns surrounding remittance flows either through or from Germany to allegedly fund terrorist activity.

### Staff Analytical Work on Germany, 2003-08 (selected titles)
- Growth and Competitiveness:
  - Growth Linkages within Europe, IMF Country Report No. 08/81.
  - Economic Impact of Shortages of Skilled Labor in Germany, IMF Country Report No. 08/81.
  - What explains Germany’s Rebounding Export Market Share? CESifo Working Paper No. 1957.
  - Long-run Growth in Germany. IMF Country Report No. 06/17.
  - Does Excessive Regulation Impede Growth in Germany? IMF Country Report No. 06/17.
  - The Performance of Germany’s Non-Financial Corporate Sector – An International Perspective. IMF Country Report No. 06/17.
  - Investment Trends in OECD Countries: Long-Term Developments and Future Prospects. IMF Country Report No. 04/340.
  - Does PPP hold in the Long Run? Germany and Switzerland. IMF Country Report No. 04/340.
  - Business Investment in the Current Cycle. IMF Country Report No. 03/342.
- Inflation:
  - Inflation Smoothing and the Modest Effect of VAT in Germany, IMF Working Paper No. 08/175.
- Fiscal Policy and Entitlement Programs:
  - Tax Reform and Debt Sustainability in Germany: An Assessment Using the Global Fiscal Model. IMF Country Report No. 06/436.
  - Business Tax Reform. IMF Country Report No. 06/436.
  - Why is Germany’s Deficit so Large?, IMF Country Report No. 06/17.
  - A Preliminary Public Sector Balance Sheet for Germany, IMF Country Report No. 06/17.
  - Germany: A Long-Run Fiscal Scenario Based on Current Policies, IMF Country Report No. 06/17.
  - Pensions and Growth. IMF Country Report No. 04/340.
  - Federalism and the Political Economy of Adjustment. IMF Country Report No. 04/340.
- Labor Markets:
  - The Employment Effects of Labor and Product Markets Deregulation and their Implications for Structural Reform. CESifo Working Paper No 1709, May 2006.
  - Employment, Unemployment, and Labor Supply in Germany. IMF Country Report No. 04/340.
  - The Unbearable Stability of the German Wage Structure: Evidence and Interpretation. IMF Staff Papers, August 2004.
- The Financial System:
  - Landesbanken: A Measure of the Costs for Taxpayers. IMF Country Report No. 06/436.
  - The German Banking Sector: Credit Decline, Soundness and Efficiency. IMF Country Report No. 06/17.
  - Germany’s Three-Pillar Banking System. IMF Occasional Paper 233 (2004).
  - Germany’s Financial System: International Linkages and the Transmission of Financial Shocks. IMF Country Report No. 03/342.
- Corporate Governance:
  - Germany’s Corporate Governance Reforms: Has the System Become Flexible Enough?, IMF Working Paper No. 08/179.

### ANNEX II. Germany: Statistical Issues
- Data provision is adequate for surveillance. Germany subscribes to the Fund’s Special Data Dissemination Standard (SDDS).
- A ROSC Data Module report was published in January 2006.
- Germany adopted ESA95 in 1999.
- The 2005 ROSC Data Module mission found macroeconomic statistics generally follow internationally accepted standards, but identified areas for improvement:
  - Sources for estimating value added for a few categories of service industries could be improved.
  - A direct source for quarterly changes in inventories is lacking.
  - No systematic, proactive process to monitor representativeness of samples of local units and products between rebases of the producer price index.
- Comprehensive data reporting supports accuracy of government finance and balance of payments statistics; however:
  - Differences between general government data in ESA95 classification and general government cash data on an administrative basis impair fiscal analysis.
  - Germany publishes general government revenue, expenditure, and balance on an accrual basis (ESA95) quarterly via Eurostat and submits annual data in GFSM 2001 format; monthly data are only disseminated on a cash-basis.
- Germany participates in the Coordinated Compilation Exercise for financial soundness indicators (FSIs). In 2006 authorities compiled a comprehensive set of FSI data and metadata.

### Germany: Table of Common Indicators Required for Surveillance (As of December 9, 2008) — selected entries and data attributes
- Exchange Rates:
  - Date of latest observation: December 08
  - Date received: 12/2/2008
  - Frequency of Data: D
  - Frequency of Reporting: D
  - Frequency of Publication: D
- International Reserve Assets and Reserve Liabilities of the Monetary Authorities:
  - Date of latest observation: October 08
  - Date received: November 08
  - Frequency of Data/Reporting/Publication: M / M / M
- Reserve/Base Money; Broad Money; Central Bank Balance Sheet; Consolidated Balance Sheet of the Banking System:
  - Date of latest observation: October 08
  - Date received: November 08
  - Frequency: M / M / M
- Interest Rates:
  - Date of latest observation: November 08
  - Date received: December 08
  - Frequency: M / M / M
- Consumer Price Index:
  - Date of latest observation: October 08
  - Date received: November 08
  - Frequency: M / M / M
- Revenue, Expenditure, Balance and Composition of Financing – General Government:
  - Date of latest observation: June 08
  - Date received: November 08
  - Frequency: Q / Q / Q
- Revenue, Expenditure, Balance and Composition of Financing – Central Government:
  - Date of latest observation: October 08
  - Date received: November 08
  - Frequency: Q / Q / Q
- Stocks of Central Government and Central Government-Guaranteed Debt:
  - Date of latest observation: September 08
  - Date received: November 08
  - Frequency: Q / Q / Q
- External Current Account Balance; Exports and Imports of Goods and Services:
  - Date of latest observation: September 08
  - Date received: November 08
  - Frequency: M / M / M
- GDP/GNP:
  - Date of latest observation: Q3 08
  - Date received: November 08
  - Frequency: Q / Q / Q
- Gross External Debt:
  - Date of latest observation: H1 08
  - Date received: November 08
  - Frequency: Semi-annual / Semi-annual / Semi-annual
- International Investment Position:
  - Date of latest observation: Q1 08
  - Date received: July 08

### Supplementary Information (Staff Report for the 2008 Article IV Consultation — Prepared by the European Department; Approved January 13, 2009)
- Purpose: Provides information on economic developments since the staff report was issued; new information does not alter the thrust of the staff appraisal.
- Key developments and projections:
  - 1. Plummeting sentiments and orders required a large downward revision in GDP growth projections, especially for 2009.
    - Growth in 2008 estimated at 1.3 percent (a revision from the WEO November 2008 and staff report projection of 1.7 percent).
    - Growth projection for Germany in 2009 marked down to -2½ percent from -¾ percent.
  - 2. Drivers of the downgrade:
    - Extraordinary drop in world trade and sharp rise in corporate stress.
    - German exports decelerating rapidly along with world trade.
    - Corporate stress evidenced by increasing bankruptcies and widening corporate bond spreads after the failure of Lehman Brothers.
    - Domestic consumption and investment expected to remain weak.
    - Fiscal stimulus (including likely addition) viewed as helping prevent a further weakening of domestic demand.
  - 3. Recovery prospects:
    - Recovery in 2010 likely to be slow.
    - Assumes fiscal stimulus plans in Germany, the United States, and China remain on schedule.
    - Continued weakness in corporate balance sheets and a weak global investment cycle imply limited vigor in export order renewal and consumer confidence.
  - 4. Fiscal stimulus announced by authorities:
    - New package: 50 billion euros expected to be spent over two years.
    - The additional 0.9 percent of GDP envisaged for 2009 will bring the total stimulus for this year to 1¼ of GDP.
    - The Staff Report had recommended a stimulus of 1½ to 2 percent of GDP; staff noted that with the dramatic deterioration a boost of at least 2 percent of GDP would have been desirable.
    - Reduction in social security contributions and step up in public infrastructure spending align with Staff Report recommendations.
    - The commuter subsidy and the cut in personal income tax rates are considered likely to be less effective by staff.
    - Total stimulus in 2010 will amount to 0.6 percent of GDP.

*Prepared by the European Department; Staff Report for the 2008 Article IV Consultation (Supplementary Information) — January 13, 2009.*

### 5.      Support by Soffin has provided stability to the financial system, but further

### 5.      Support by Soffin has provided stability to the financial system, but further 

### Financial sector stability and SoFFin support
- CDS spreads of financial institutions are off their post-Lehman peaks.
- Bank lending has remained in positive territory (chart title: "Until end-November Bank Lending Continued to Grow").
- Guarantees issued by SoFFin will facilitate rollover of banks’ funding.
- At present, 95 bn euros of guarantees are committed (out of an overall envelope of 400 bn euros) and 8.2 bn euros in recapitalization support (out of maximum envelope of 80 bn euros).
- The central principle of SoFFin — its balanced focus and voluntary participation — has so far proven adequate and the feared stigmatization of participating institutions cannot be confirmed.
- SoFFin is intervening on a subsidiary basis; several banks managed recapitalization on their own without using the recapitalization credit line of SoFFin.
- In 2009, a new asset-class will be established (government-guaranteed bank bonds) intended to improve incentives for banks to participate in SoFFin.

### Bank asset quality, capital needs, and market funding
- With deterioration in bank asset quality, capital needs are likely to rise; Commerzbank recently required a second capital injection.
- Funding conditions remain tight, as reflected in the Deutsche Bank decision to pay the penalty required to extend a maturing obligation.
- Directors and staff noted that, given the low level of capital in several banks, further recapitalization may be desirable in view of expected asset quality deterioration.

### Transparency and supervisory recommendations
- Regular financial reporting of FMSF (SoFFin) transactions, including their approval status by the European Commission, would provide transparency and bolster confidence.
- Directors recommended that the agency administering the FMSF use its authority more broadly for enhancing the soundness of the financial sector.
- Directors observed that the case for a tighter bank regulatory and supervisory process has become more compelling.
  - Authorities encouraged to place greater reliance on timely supervisory assessments independently of the banks’ annual external audit cycle.
  - Link prudential regulation and supervision to a system of macro-surveillance and stability analysis.
  - Greater consolidation of regulatory and supervisory resources could yield significant benefits.
- My authorities consider the German bank resolution framework as broadly adequate; Section 46b of the Banking Act provides moratorium powers for supervisors and BaFin is considered to have sufficient instruments at hand.

### Landesbanken: burden and restructuring
- The continuing need for support to Landesbanken remains a concern.
- The burden of this support has appropriately fallen on the states.
- Directors called for a proactive restructuring and downsizing of the Landesbanken, which are a continuing drain on public finances and a threat to financial stability.
- My authorities share staff’s recommendation to move forward with the restructuring of the Landesbanken and consider substantial reform including downsizing and development of a viable business model.

### Deposit insurance and safety net design
- Directors called for strengthened deposit insurance, given risks associated with existing multiple protection schemes that have typically relied on ex post burden-sharing.
- Recommendation: a base layer of mandatory deposit insurance — ex ante funded by contributions from all banks — to provide unified terms of protection for depositors and reduce incentives to shift deposits among existing schemes.
- Evolving European Union rules should provide guidance on coverage limits.

### Fiscal policy response and medium-term sustainability
- The authorities’ stimulus package is expected to provide a needed impulse to domestic demand but will increase the deficit.
- The government adopted fiscal packages on 7 October and 5 November 2008; total volume of both the package and the commuting allowance in 2009 and 2010 will amount to approximately 40 bn euros (or over 1 ½ percent of GDP).
- The measures will cost 11 bn euros in two years but are expected to trigger 50 bn euros in private investment.
- My authorities are considering the implementation of a new constitutional fiscal rule to ensure compensation of short-term discretionary fiscal policy measures in the next upswing; staff noted usefulness of such a rule.
- Directors welcomed authorities’ reiteration of commitment to medium-term fiscal sustainability and recommended applying proposed fiscal rule limiting the structural budget balance to about zero also to the states.
- Directors noted trends in healthcare costs and debt accumulation by the states remain a concern; recommended further rationalization of pharmaceutical expenditures and strengthened efficiency-enhancing competition in healthcare.
- Suggested possible benefits from more state tax autonomy and a redesign of supplementary federal grants to improve states’ incentives for fiscal discipline, while authorities expressed caution.

### Macroeconomic outlook and risks
- After robust growth in 2006 and 2007, real GDP slowed in 2008 and is projected to decline sharply.
- In 2008, GDP is projected to grow at 1.3 percent.
- An economic contraction of 2½ percent is projected for 2009, followed by a slow recovery in 2010.
- Risks remain tilted to the downside.
- Executive Directors welcomed financial safety net measures and fiscal stimulus while noting the fundamentals of the German economy remain strong and commending prior fiscal prudence.
- Directors recommended that global policy actions and measures to contain the risk of a costly global self-reinforcing slump should preferably be coordinated regionally and internationally.

### Selected exact indicators and figures cited
- SoFFin committed guarantees: 95 bn euros (out of overall envelope of 400 bn euros).
- SoFFin recapitalization support used: 8.2 bn euros (out of maximum envelope of 80 bn euros).
- Fiscal package total volume in 2009–2010: approximately 40 bn euros (or over 1 ½ percent of GDP).
- Cost of measures over two years: 11 bn euros; expected to trigger 50 bn euros in private investment.
- Projected 2008 GDP growth: 1.3 percent.
- Projected 2009 GDP contraction: 2½ percent.
- Germany: Selected Economic Indicators (real GDP change): 2004: 1.2; 2005: 0.8; 2006: 3.0; 2007: 2.5; 2008: 1.3.
- General government balance (percent of GDP): 2004: -3.8; 2005: -3.3; 2006: -1.5; 2007: -0.2; 2008: -0.1.
- General government gross debt (percent of GDP): 2004: 64.7; 2005: 66.4; 2006: 66.0; 2007: 65.0; 2008: 68.7.
- Private sector credit (change over 12 months): 2004: -0.2; 2005: 2.2; 2006: 3.5; 2007: 3.2; 2008: 6.6.
- M3 (change over 12 months): 2004: 2.2; 2005: 5.2; 2006: 4.9; 2007: 10.6; 2008: 11.1.
- Three-month money market rate (percent): 2004: 2.1; 2005: 2.1; 2006: 3.7; 2007: 4.8; 2008: 3.4.
- Ten-year government bond yield (percent): 2004: 4.1; 2005: 3.6; 2006: 3.8; 2007: 4.3; 2008: 3.2.
- Exports (billions of euros): 2004: 850.3; 2005: 924.6; 2006: 1,056.3; 2007: 1,148.6; 2008: 1,206.6.
- Imports (billions of euros): 2004: 739.9; 2005: 805.1; 2006: 925.5; 2007: 975.6; 2008: 1,047.6.
- Current account balance (billions of euros): 2004: 102.9; 2005: 116.6; 2006: 141.5; 2007: 184.2; 2008: 149.4.
- Current account (percent of GDP): 2004: 4.7; 2005: 5.2; 2006: 6.1; 2007: 7.6; 2008: 6.0.
- GDP per capita (2007): US$40,391.7.
- Population (2008): 82.06 millions.
- Gini coefficient (2000): 0.28.
- At-risk-of-poverty rate (2005; percent): 13.
- Life expectancy at birth (2007; years): 76.9 (male), 82.1 (female).
- Euro exchange: Euro 0.7 per US$ (participant in euro zone).

*Source: IMF staff report and Public Information Notice (PIN) No. 09/05, January 22, 2009.*

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