## _cr1085

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---

### Executive Summary — Context and Outlook
- Germany was hit "exceptionally hard" by the crisis; strong policy support, restocking, and an uptick in global demand lifted the economy from recession.
- Mission dates: January 27–February 8, 2010.
- Recovery characterized as moderate and fragile with mostly downward risks to export and credit growth.
- Staff GDP projections:
  - GDP dropped by about 5 percent in 2009.
  - GDP projected to grow by 1.2 percent in 2010.
  - GDP projected to grow by 1.7 percent in 2011.
- Sources of fragility and downside risk:
  - Slower export growth as global fiscal stimulus and restocking fade.
  - Continuing banking fragilities pressuring credit supply.
  - Rising unemployment as firms adjust and Kurzarbeit subsidies unwind.

### Current Account
- Baseline: current account surplus moderates from pre-crisis heights.
- Historical and projected levels:
  - Current account surplus reached 7½ percent of GDP in 2007.
  - Projected to reach 5½ percent of GDP in 2010.
- Assessment:
  - The projected 2010 surplus broadly in line with the Macrobalances approach.
  - Downside risk: weaker export growth from Asia or U.S. dollar depreciation could push the surplus lower.

### Labor Market — Findings, Kurzarbeit, and Outlook
- Employment resilience:
  - Unemployment increased from 7.2 percent (Q3 2008) to 7.5 percent (Q4 2009).
  - Employment held up "extraordinarily well" despite a large GDP drop.
- Factors supporting resilience:
  - Increased firm-level flexibility and labor market reforms (Hartz IV).
  - Increased use of work-sharing arrangements and Arbeitszeitkonten.
  - Kurzarbeit expansion and generosity during the crisis.
- Kurzarbeit specifics:
  - Peak take-up: over 1.5 million employees (or 3.5 percent of the labor force) working under the scheme, mostly in manufacturing.
  - Full-time equivalent at peak: nearly half a million positions.
  - Short-time subsidies cover up to 67 percent of a worker’s lost income.
  - Maximum duration extended to 24 months; increased coverage of firms’ social contributions.
- Outlook and risks:
  - Staff expects unemployment to increase during 2010, reaching a peak of 9.5 percent by end-2010; authorities expect a more gradual increase.
  - Risks from exhaustion of Arbeitszeitkonten, residual costs of short-time work, structural shifts, and firms targeting lower employment levels.

### Fiscal Policy: From Stimulus to Consolidation
- 2009 fiscal actions and 2010 additions:
  - Konjunkturpaket II (Feb 2009): fiscal cost about 2 percent of GDP across 2009 and 2010.
  - Cash-for-clunkers (Umweltprämie): subsidy of €2,500 for new cars Jan–Aug 2009; scheme value increased from €1.5 billion to €5 billion (0.2 percent of GDP).
  - Reductions in contribution rates to unemployment and health insurance in Jan and Jul 2009.
  - Wachstumsbeschleunigungsgesetz (Dec 2009): tax breaks and transfers about ¼ percent of GDP; additional measures in 2010 added ¼ percent of GDP, bringing 2010 stimulus to 0.7 percent of GDP.
- Fiscal figures (percent of GDP, preserved):
  - Overall balance (general government): 0.0, -3.3, -5.7, -5.1 (table sequence as reported).
  - Structural balance (general government): -0.4, -1.1, -3.9, -3.8.
  - Gross debt (general government): 65.9, 72.5, 76.7, 79.5.
- Recent trajectory and projections:
  - Balanced budget in 2008.
  - General government deficit estimated 3.3 percent of GDP in 2009.
  - Projected to increase to 5½ percent in 2010—nearly twice the SGP deficit limit.
  - Gross debt ratio rising from 65 percent of GDP in 2007 to 77 percent in 2010 (including financial sector support costs).
- Medium-term fiscal rules:
  - Constitutional "Schuldenbremse" limits federal structural deficit to 0.35 percent of GDP starting 2016; Länder to balance by 2020.
- Staff consolidation requirements:
  - To reach SGP goal: annual structural consolidation of ½ percent of GDP in 2011–13.
  - To comply with constitutional rule and MTO: further annual structural adjustment of ¾ percent of GDP through 2016.
  - Both calculations include planned tax cuts in 2011.
- Policy recommendations:
  - Emphasize expenditure-based consolidations beginning in 2011.
  - Specific expenditure actions: withdraw crisis-era measures as planned; reduce subsidies; adhere to pension adjustment mechanisms and gradual rise in retirement age; realize health care savings (e.g., limit non-generic pharmaceuticals).
  - Revenue-side options if needed: broaden VAT base, review income tax exemptions, consider property tax reform, increase unemployment insurance contribution rates to reduce need for federal support.
  - On 2011 permanent income tax cut (~1 percent of GDP): staff cautions it would be pro-cyclical unless offset by compensating budgetary measures; potential adverse incentive effects from stepwise tax schedule.

### Financial Sector: Stabilization, Vulnerabilities, and Reform
- SoFFin (Sonderfonds Finanzmarktstabilisierung):
  - Set up Oct 2008; total volume capped at €480 billion.
    - Up to €400 billion for guarantees for interbank loans and bank-issued debt.
    - €80 billion for recapitalizations and assumption of risk associated with certain assets.
  - After liquidation, remaining position split 65 percent federal / 35 percent states (states' cap €7.7 billion; Landesbanken costs borne by relevant states).
  - Uptake by Dec 2009: about 40 percent used (40 percent of guarantees; 37 percent of other measures); another 19 percent requested.
- Financial sector condition and risks:
  - Health generally improved but Landesbanken sector remains structurally unprofitable.
  - Remaining sizable write-downs, exposure to emerging and Southern European markets, and tightening euro area liquidity create vulnerabilities.
  - Sunset clauses for SoFFin support by end-2010 increase urgency.
- Bundesbank, supervision, and resolution:
  - Staff supported making the Bundesbank the sole prudential bank supervisor; authorities agreed and plan detailed proposals with new structure effective spring 2011.
  - Staff recommended placing prudential supervision over the entire financial sector and making BaFin the market conduct supervisor (twin peaks model).
  - Need for a permanent bank resolution regime by early 2011; if delayed, extend SoFFin powers as needed.
  - Enhanced data, transparency, and international coordination recommended for exit from support measures and deposit guarantee changes.
- Deposit insurance:
  - Current fragmented system with statutory scheme for commercial banks (coverage of "€50,000"), collective arrangements for cooperative banks, and association/public sponsor arrangements for Sparkassen and Landesbanken.
  - Crisis required a €6.7 billion SoFFin guarantee for the commercial banks’ deposit protection scheme.
  - EU increase of statutory coverage to €100,000 next year suggests merit in creating a unified deposit insurance fund across the banking system.

### Landesbanken: Diagnosis and Consolidation
- Structural problems: "structural unprofitability, weak governance, and insufficient risk control."
- Staff view: consolidation of the Landesbanken sector should be a policy priority.
- Consolidation approach suggested: use Landesbanken wholesale banking function for Sparkassen as basis for consolidation; staff suggested "a single institution."
- Requirements for remaining Landesbanken: effective governance, viable business models, and alternative private ownership structures.
- Political constraint: Länder ownership limits federal influence on the process.
- Policy stance on public recapitalization: voluntary SoFFin recapitalization useful but uptake lower than expected; public support to be conditional on viable business models; weaker banks face conditionality or resolution.

### Credit Growth, Bank Losses, and Macro Effects
- Credit environment:
  - With weak credit supply and demand, little clear evidence of a credit crunch; corporate credit declined broadly in line with GDP.
  - Large corporates accessed bond markets; SMEs relied on smaller banks and a KfW-supported program shifting credit risk to the federal public bank.
- Expected further write-downs:
  - Bundesbank estimates by end-2010 additional write-downs of financial institutions of €50 billion to €75 billion from bad loans, adding to asset-related losses of €10 billion to €15 billion.
  - This implies about half of total losses written off; GFSR Oct 2009 estimated about 60 percent of total losses in Europe written off.
- Lending constraints and macro effects (Box 3):
  - Bank capital (capital/assets) became a constraint on lending growth since the crisis, especially for large commercial banks.
  - VAR-based estimate: a 1 percent reduction of bank lending would reduce consumption by 1.2 percent and investment by 2.8 percent.

### Potential Growth and Inflation
- Potential growth:
  - Crisis temporarily weakened growth potential; staff research suggests potential growth dropped to ⅓ percent.
  - Staff baseline longer-run potential growth around 1.2 percent to 1¼ percent.
  - Implied permanent loss in level of potential output in line with cross-country evidence for recessions with financial crises.
- Inflation:
  - Headline inflation averaged 0.2 percent in 2009; core inflation averaged 1.2 percent in 2009.
  - Headline inflation projected to average about 0.9 percent in 2010 and 1.0 percent in 2011.
  - With output substantially below potential, headline inflation expected to increase only slowly; outlook shared by authorities.

### Exports, Competitiveness, and External Exposures
- Export dynamics:
  - German recoveries traditionally start with export pick-up; non-EU exports had strengthened pre-crisis as U.S. and Asian demand rose.
  - Post-crisis export growth likely lower due to slow European recovery, restrained U.S. consumption, and limited pull from China given its small share of German exports.
- Competitiveness assessments (CGER approaches):
  - External Sustainability approach: current account surplus substantially exceeds what is required to sustain net foreign asset levels.
  - Equilibrium Real Exchange Rate approach: indicates a small competitive disadvantage but may be misleading.
  - Macrobalances approach: places Germany at a broadly neutral level.
- Policy implication: strengthen domestic sources of growth (services, labor market reforms) to aid adjustment and reduce euro area/global current account imbalances.

### Foreign Exposure of German Banks (Box 8) — Key statistics preserved
- From 2000:Q1 to 2008:Q1, foreign claims rose by 160 percent to about $4.7 trillion.
- Change in foreign claims to GDP ratio: about 37 percentage points.
- Geographic split: about half of the build-up went to the euro area and to the U.S.; emerging markets accounted for 8 percent of the increase.
- Deleveraging: between March 2008 and end-June 2009, foreign claims contracted by $1.2 trillion.
- Remaining exposures and simulations:
  - German banks could suffer significant losses from U.S. and Spanish commercial real estate and from exposures to Southern Europe.
  - Reassessment of Southern Europe risks could trigger large reductions in foreign claims to restore capital ratios.

### Key Macroeconomic and Fiscal Indicators (selected, preserved exactly)
- Area: 357,041 square kilometers.
- Population (2008): 82.2 million.
- GDP per capita (2008): US$ 44,728.51.
- Real GDP growth: 2005 0.7; 2006 3.2; 2007 2.5; 2008 1.2; 2009 -4.9; 2010 1.2 1/; 2011 1.7 1/.
- Output gap (percent of potential GDP): 2009 -4.2; 2010 -3.5; 2011 -2.6.
- Unemployment rate (Eurostat definition, percent): 2008 7.2; 2009 7.4; 2010 8.6; 2011 9.3.
- Current account (percent of GDP): 2007 7.5; 2008 6.4; 2009 4.8; 2010 5.4; 2011 5.5.
- General government balance (percent of GDP): 2009 -3.3; 2010 -5.7; 2011 -5.1.
- General government debt (percent of GDP): 2007 65.0; 2008 65.9; 2009 72.5; 2010 76.7; 2011 79.5.
- Exports (in billions of euros): 2007 984; 2008 984; 2009 796; 2010 832; 2011 856.
- Total bank assets (memorandum): 11,305.9 (in billions of U.S. dollars).
- Nominal GDP (memorandum): 3,361.6 (in billions of U.S. dollars).

### Executive Board Assessment and Policy Recommendations (summary)
- Recovery aided by timely and appropriate policies; outlook moderate and fragile.
- Fiscal policy: transition from support to credible consolidation once recovery firm (projected 2011); emphasis on expenditure-based consolidation and compensating measures if tax cuts proceed in 2011.
- Financial sector: continue repair and restructuring; strengthen capital buffers; consolidate Landesbanken; ensure Bundesbank as sole supervisor with accountability and operational independence; establish effective bank resolution regime; unify deposit protection scheme in line with EU initiatives.
- Structural policies: phase out crisis labor market policies; undertake reforms to raise long-term growth and domestic demand; increase labor market flexibility and reduce obstacles to product and service market development.

*Source: _cr1085 — Executive Summary and selected excerpts from the IMF staff report and Executive Board discussion materials contained in the provided content.*

### Executive Summary

### Executive Summary

### The Context
- Germany was hit "exceptionally hard" by the crisis, but strong policy support, restocking, and an uptick in global demand have lifted the economy from recession.
- Key crisis-era supports that contributed to stabilization:
  - Fiscal stimulus and automatic stabilizers.
  - Financial sector measures (including SoFFin and related legislation) that mitigated systemic stress and supported credit.
  - Expanded short-time (Kurzarbeit) subsidy scheme that helped preserve employment.
- The mission took place during January 27–February 8, 2010.

### Overall Outlook and Recovery Assessment
- The recovery is described as moderate and fragile, with mostly downward risks to export and credit growth.
- Damage to potential growth from crisis dislocations will take time to repair.
- Staff projections:
  - GDP dropped by about 5 percent in 2009.
  - GDP projected to grow by 1.2 percent in 2010.
  - GDP projected to grow by 1.7 percent in 2011.
- Sources of fragility and downside risk:
  - Slower export growth than pre-crisis as global fiscal stimulus and restocking fade and U.S. consumption restrains.
  - Continuing banking fragilities pressuring credit supply.
  - Rising unemployment as firms adjust to lower post-crisis growth and as short-time work subsidies unwind, limiting consumption.

### Fiscal Policy: From Stimulus to Consolidation
- 2009 fiscal actions:
  - Konjunkturpaket II enacted in February with a fiscal cost of about 2 percent of GDP distributed across 2009 and 2010.
  - Cash-for-clunkers (car-scrapping) scheme extended (see Box 5 referenced in source).
  - Reductions in contribution rates to unemployment and health insurance in January and July 2009.
  - Wachstumsbeschleunigungsgesetz in December with tax breaks and transfers of about ¼ percent of GDP.
- Medium-term fiscal rules:
  - New fiscal rule (“Schuldenbremse”), anchored in the constitution in June 2009, limits the structural deficit of the federal government to 0.35 percent of GDP starting in 2016— to be reached in roughly equal consolidation steps starting in 2011—and requires Länder to balance by 2020.
- Policy challenge:
  - 2010 budget continues to provide stimulus during a still fragile recovery.
  - With recovery expected to firm by 2011, the government is committed to fiscal consolidation to anchor policy in the euro area.
  - Strong measures will be needed to meet the SGP and national deficit rules in the medium term.
  - Tensions in fiscal plans for 2011, which include sizable permanent tax cuts, need to be resolved.

### Financial Sector: Restructuring and Reform
- Banking sector status:
  - Health of the banking sector has generally improved, but the Landesbanken sector remains structurally unprofitable.
  - SoFFin (Sonderfonds Finanzmarktstabilisierung) established in 2008 helped stabilize the banking sector, including recapitalizations of Commerzbank and Hypo Real Estate (HRE).
  - The Finanzmarktstabilisierungsergänzungsgesetz (April 2009) introduced a temporary option for public takeover of banks, enabling the October nationalization of HRE.
  - The Bad-Bank-Act (Gesetz zur Fortentwicklung der Finanzmarktstabilisierung) (July 2009) allows banks to transfer impaired assets to legal vehicles in return for SoFFin-guaranteed government bonds and a fee; includes options supporting bank consolidation and removing entire business areas from the core bank.
- Staff recommendations and authorities’ stance:
  - Staff called for major consolidation of the Landesbanken; authorities broadly agreed while stressing the voluntary nature of the process.
  - Staff supported plans to make the Bundesbank the sole prudential bank supervisor to enhance accountability and speed enforcement; the authorities agreed.
  - Staff favored reforming the fragmented deposit insurance scheme; the authorities did not view deposit insurance reform as a priority.
  - A plan to introduce an effective bank resolution regime is being discussed in line with EU efforts.
- Timeline and next steps:
  - Time is running out to solve remaining banking sector problems, particularly given tightening liquidity conditions and the role of credit in the recovery.
  - An FSAP Update is planned for late 2010.

### Structural Policies and Labor Market
- Labor market measures:
  - Kurzarbeit was expanded in 2009 with increased subsidy levels and longer durations of eligibility; this helped preserve employment during the downturn.
- Transition challenge:
  - Authorities plan to withdraw short-term crisis labor market policies gradually so they do not become impediments to long-run growth.
  - State aid and short-term subsidies that smooth employment could impede adjustment if continued indefinitely.
- Structural reform priorities:
  - Reforms to make the economy more flexible and to strengthen domestic sources of growth (including service sector and labor market reforms) would help Germany adjust to slower foreign demand.
  - Strengthening domestic growth would also help reduce current account imbalances within the euro area and globally.

### Export Growth and Competitiveness
- Germany’s cyclical exposure:
  - German recoveries traditionally start with a pick-up in exports due to the foreign-demand-oriented manufacturing sector; EU neighbors and the euro area are especially important trading partners.
  - Non-EU export growth had picked up before the crisis as U.S. and Asian demand strengthened.
- Post-crisis export prospects:
  - Export growth is likely to be lower following the crisis because:
    - Slow recovery in Europe with particular weakness in the South.
    - U.S. consumers expected to show restraint relative to pre-crisis spending once global fiscal stimulus and restocking subside.
    - China’s growth remains high, but its pull on German exports is limited by its still-small share in German exports.
- Competitiveness assessment:
  - The crisis dented competitiveness through an earlier appreciation of the euro and a pickup in wage growth in early 2008, together with higher unit labor costs due to labor hoarding.
  - CGER estimates suggest the deterioration in competitiveness has been small, with Germany retaining a small competitiveness advantage on average across approaches:
    - External Sustainability approach implies the current account surplus substantially exceeds what is required to sustain net foreign asset levels.
    - Equilibrium Real Exchange Rate approach indicates a small competitive disadvantage but may be misleading.
    - The Macrobalances approach places Germany at a broadly neutral level.
  - Wage growth has started to moderate since mid-2008 and labor hoarding is expected to unwind, which should lift productivity.

### Spillovers and Regional Implications
- Successfully tackling crisis fallout in Germany will help sustain the upswing in Europe and elsewhere through positive feedback effects in tightly integrated trade and financial markets.
- Strengthening domestic sources of growth in Germany would contribute to reducing euro area and global current account imbalances and reduce risks of rapid or excessive exchange rate movements that hurt trade.

*Source: _cr1085 - Executive Summary*

### 10.      As for the current account position,

### _cr1085 - 10.      As for the current account position,

### A. Current Account
- Baseline projection: current account surplus moderates from pre-crisis heights.
- After reaching 7½ percent of GDP in 2007, the surplus is projected to reach 5½ percent of GDP in 2010.
- The projected 2010 surplus would be broadly in line with the equilibrium level suggested by the Macrobalances approach.
- Downside risks could push the surplus lower if export growth underperforms: demand from Asia could fall short of expectations and a sharp depreciation of the U.S. dollar in tandem with Asian currencies could add additional downward momentum.

### B. Labor Market — Findings and Outlook
- Employment held up extraordinarily well during the recession despite a large GDP drop.
- Unemployment increased from 7.2 percent in the third quarter of 2008 to 7.5 percent in the fourth quarter of 2009.
- Factors supporting employment resilience:
  - Statistical changes contributed, but more important were increased firm-level flexibility and labor market reforms (Hartz IV).
  - Increased use of work-sharing arrangements and worktime accounts (Arbeitszeitkonten).
  - Short-time work (Kurzarbeit) program made significantly more generous during the crisis.
- Kurzarbeit specifics:
  - At its peak, over 1.5 million employees (or 3.5 percent of the labor force) worked under the scheme, mostly in manufacturing.
  - Take-up reached over 1.5 million workers at its peak, a full-time equivalent of nearly half a million positions.
  - Short-time subsidies cover up to 67 percent of a worker’s lost income.
  - Recent changes included an extension of the maximum duration to 24 months and increased coverage of firms’ social contributions.
- Outlook and risks:
  - Authorities and staff expect unemployment to increase as Kurzarbeit unwinds and firms adjust to lower post-crisis demand.
  - Staff expects unemployment to increase during 2010, reaching a peak of 9.5 percent by the end of the year; authorities expect a more gradual increase.
  - Labor hoarding unwind and increased employment uncertainty will dampen consumption.
  - Exhaustion of Arbeitszeitkonten, residual costs of short-time work, structural shifts in the economy, and firms’ targeting of lower employment levels all pose risks of further labor market deterioration.

### C. Credit Growth and Bank Balance Sheets
- Current assessment: with weak credit supply and demand, little clear evidence of a credit crunch; corporate credit has declined broadly in line with GDP.
- Large corporations have relied on the bond market; SMEs benefited from smaller banks and a KfW-supported program shifting credit risk to the federal public bank.
- Bundesbank estimates by end-2010 additional write-downs of financial institutions of €50 billion to €75 billion from bad loans, adding to asset-related losses of €10 billion to €15 billion.
- This implies about half of total losses have been written off; GFSR October 2009 estimates about 60 percent of total losses in Europe have been written off.
- Staff analysis and empirical evidence:
  - Lending growth has been positively related to initial bank capital during the crisis, indicating capital could constrain lending moving forward.
  - A one standard deviation negative bank credit shock has large cumulative negative effects on consumption and fixed investment (VAR analysis).
- Box 3 findings:
  - Bank capital (capital/assets) became a constraint on lending growth since the crisis began, especially for large commercial banks.
  - Estimated macro effects: a 1 percent reduction of bank lending would reduce consumption by 1.2 percent and investment by 2.8 percent (based on VARs).

### D. Potential Growth
- The crisis has temporarily weakened Germany’s growth potential.
- Staff research suggests potential growth has dropped to ⅓ percent following weak investment and scrapping of excess capacity in some areas.
- Risks to potential growth:
  - Deterioration in the labor market could lead to higher and more long-term unemployment, slowing recovery of potential growth to its estimated longer-term value of around 1¼ percent.
  - Conversely, labor market conditions could improve faster than expected.
- Box 4 assessment:
  - Staff sees potential growth around 1.2 percent in the longer run.
  - The crisis will have a temporary negative impact on potential growth through lower input factor growth and reduced productivity growth; recovery of productivity and investment should raise potential back toward pre-crisis levels.
  - The implied permanent loss in the level of potential output is in line with cross-country evidence on medium-term impacts of recessions with financial crises.

### E. Inflation
- Recent and projected inflation rates:
  - Headline inflation averaged 0.2 percent in 2009.
  - Core inflation averaged 1.2 percent in 2009.
  - Headline inflation projected to average about 0.9 percent in 2010 and 1.0 percent in 2011.
- With actual output substantially below potential, headline inflation is expected to increase only slowly; outlook broadly shared by the authorities.

*Source: _cr1085 - 10.      As for the current account position,*

### 20.      Fiscal policy has been counter cyclical. During 2008 and 2009, the authorities

### 20. Fiscal policy has been counter cyclical

### Fiscal stimulus and cash-for-clunkers
- Legislated fiscal stimulus measures:
  - 1.5 percent of GDP for 2009
  - 0.4 percent of GDP for 2010
  - Implementation lags suggest a larger share of the measures will become effective this year.
- New government additions for 2010:
  - Added ¼ percent of GDP of new measures (various tax rebates for businesses and higher family benefits), bringing overall stimulus for 2010 up to 0.7 percent of GDP.
- Coalition agreement:
  - Envisages permanent income tax cuts of about 1 percent of GDP in 2011.
- Cash-for-Clunkers (CFC, “Umweltprämie”) program (Box 5):
  - Subsidy of €2,500 for the purchase of new cars between January and August 2009.
  - Scheme value increased from the initial €1.5 billion to €5 billion (0.2 percent of GDP).
  - Staff estimates suggest the CFC scheme boosted private consumption growth by 1.1 and 0.4 percentage points (qoq) in 2009:Q1 and Q2, respectively.
  - A dummy variable attributes a car consumption growth boost of 20 percentage points in each Q1 and Q2 to the CFC scheme.
  - Falling car sales already lowered private consumption growth by 0.1 percentage point in Q3; experience with the 2007 VAT increase suggests more weakness is to come.

### Fiscal overview and key statistics (percent of GDP)
- Table as reported:
  - Overall balance (general government)0.0-3.3-5.7-5.1
  - Structural balance (general government)-0.4-1.1-3.9-3.8
  - Federal government-0.7-1.0-2.9-2.5
  - State governments 1/0.1-0.4-1.5-1.6
  - Social Security0.20.20.50.2
  - Gross debt (general government)65.972.576.779.5
- Source note: Authorities and IMF staff. 1/ Including local governments.

### Recent trajectory and projections
- Fiscal position:
  - Balanced budget in 2008.
  - General government deficit reached an estimated 3.3 percent of GDP in 2009.
  - Projected to increase to 5½ percent in 2010—nearly twice the deficit limit set by the European Union’s Stability and Growth Pact (SGP).
  - Gross debt ratio set to rise from 65 percent of GDP in 2007 to 77 percent in 2010 (taking into account fiscal costs associated with financial sector support packages).

### Medium-term consolidation requirements and scenarios
- Authorities agree fiscal consolidation needs to start as soon as the recovery has firmed up, which is projected for 2011.
- SGP requirement:
  - General government deficit must decline to 3 percent of GDP by 2013.
  - By 2016, the general government budget will have to be close to balance, reflecting limits imposed by Germany’s new constitutional rule (“Schuldenbremse”) and the Medium-Term Objective (MTO).
- Constitutional rule and MTO:
  - Constitutional rule restricts the federal structural deficit to 0.35 percent of GDP by 2016.
  - MTO implies a structural deficit limit of 0.15 percent for the Länder.
  - Structural deficits projected for 2010 are 2.9 and 1.5 percent, respectively.
- Staff analysis on required consolidation:
  - Reaching the SGP goal will require an annual structural consolidation effort at the general government level of ½ percent of GDP in 2011-13.
  - Complying with the constitutional fiscal rule and MTO will require further annual structural adjustment of ¾ percent of GDP through 2016.
  - Both calculations include the planned tax cuts in 2011.
- Alternative staff scenario parameters (as presented in chart notes):
  - Full adjustment: Annual structural adjustment of 0.6 percent of GDP; tax cuts in 2011.
  - Baseline: Annual structural adjustment of 0.4 percent of GDP; tax cuts in 2011.
  - No adjustment: No structural tax or expenditure adjustment.

### Policy analysis and recommendations
- Emphasize expenditure-based consolidations:
  - Formulating a credible fiscal adjustment strategy focused on expenditures and implementing it starting in 2011 is important.
  - Expenditure-based consolidations tend to be larger and more enduring; reductions in current spending have the smallest contractionary effects.
- Specific expenditure measures highlighted:
  - Withdraw crisis-era measures as planned.
  - Continue systematic examination and reduction of subsidies (for example, in agriculture or mining).
  - Strictly adhere to agreed adjustment mechanisms for pension benefits and the gradual rise in the retirement age.
  - Realize potential savings in the health care system (for example, by limiting spending on non-generic pharmaceuticals).
- Revenue-side options if consolidation scope exceeds expenditure cuts:
  - Broaden the VAT tax base by eliminating exemptions and increasing coverage.
  - Review income tax exemptions.
  - If tax rate increases are unavoidable, higher VAT rates would bolster revenues at the federal and Länder levels.
  - Reform of the property tax could support local finances.
  - Increase contribution rates to unemployment insurance to remove need for repeated federal support (a proposal under discussion).
- On the 2011 permanent income tax cut (~1 percent of GDP):
  - Authorities argue potential benefits for sustaining private demand, improving work incentives, and simplifying the income tax schedule.
  - Staff cautions: impact on labor supply may be small; proposed stepwise tax schedule could create adverse incentive effects (bunching); tax cuts in 2011 would be pro-cyclical unless offset by compensating budgetary measures to ensure medium-term fiscal targets.

### Fiscal role in the euro area and spillovers
- Germany’s fiscal actions matter in Europe because of the country’s relative size and leadership role; German consolidation could set an example and reduce the risk of an undesirable policy mix in the euro area.
- Staff research (Box 6) shows Germany’s discretionary fiscal policy has had a strong and robust influence on discretionary fiscal actions in the rest of the euro area since 1992.

### Financial sector implications and SoFFin
- Financial sector health:
  - Improving due to steepening yield curve, improving outlook, and authorities’ measures.
  - Remaining sizable write-downs, exposure to emerging and Southern European markets, and expected tightening of euro area liquidity create vulnerabilities.
  - Sunset clauses for new public support through the Sonderfonds Finanzmarktstabilisierung (SoFFin) by end-2010 increase urgency.
- SoFFin (Box 7):
  - Set up in October 2008, administered by the Agency for the Stabilisation of the Financial Markets (FMSA).
  - Total volume of measures capped at €480 billion:
    - Up to €400 billion available for guarantees for interbank loans and bank-issued debt (maturity generally up to 3 years).
    - €80 billion for recapitalizations and assumption of risk associated with certain assets.
  - After liquidation, remaining position divided 65 percent to the federal government and 35 percent to the states (capped at € 7.7 billion; costs associated with Landesbanken borne in full by relevant states).
  - Uptake by December 2009: about 40 percent of the available funds had been used (40 percent of the guarantees and 37 percent of the other measures) and another 19 percent of the available fund had been requested.
- Major public banks concerns:
  - Landesbanken sector has systemic risks.
  - West LB restructuring: about one third of its balance sheet (€85 billion, including structured products) to be transferred to a “bad bank,” with the remaining core bank receiving about €3 billion public capital from SoFFin (initially as silent participation).
  - Bayern LB weakened by costly ownership of Austrian Hypo Group Alpe Adria.
- Policy stance on bank recapitalization:
  - Voluntary public recapitalization via SoFFin has been helpful but fewer institutions than expected have used it—stronger incentives may be needed.
  - Public support will be conditional on viable business models; weaker banks will face conditionality or resolution.

*Source: IMF staff and authorities, as presented in the content unit.*

### 32.      This suggests that consolidation of the Landesbanken sector should be a policy

### _cr1085 - 32.      This suggests that consolidation of the Landesbanken sector should be a policy

### Landesbanken sector: diagnosis and consolidation recommendation
- Structural problems identified: "structural unprofitability, weak governance, and insufficient risk control" burden many institutions.
- Staff assessment: "structural unprofitability will remain even as the outlook improves" due to "high cost structure and lack of a viable business model."
- Behavioral implication: "some Landesbanken will continue to show a tendency for excessive risk taking in search of profits."
- Policy priority: "consolidation of the Landesbanken sector should be a policy priority."
- Consolidation approach suggested: use the Landesbanken’s wholesale banking function for Sparkassen as a basis for consolidation, with staff suggesting "a single institution."
- Remaining Landesbanken requirements: must have "effective governance and viable business models, with an alternative private ownership structure."
- Political constraint noted: "the ownership of the Länder limits the influence of the federal government on the process."

### Exiting blanket support measures and improved surveillance
- Rationale for exit: Measures such as SoFFin support for bank funding and the government’s public commitment to fully protect household deposits can "distort risk-taking incentives and prevent market normalization."
- Exit condition: "This calls for an exit as soon as all known and anticipated recapitalization needs have been met."
- Diagnostic tool: "The forthcoming FSAP Update requested by the authorities and scheduled for late 2010 can be helpful by shedding light on the financial sector’s health in the absence of government support."
- Data and transparency needs: "Enhanced surveillance of the German banking sector would profit from more comprehensive and timely data and transparent reporting."
- International coordination: "It will be important to coordinate the exit from these financial sector measures internationally" to limit risks from uncoordinated withdrawal or amendment of deposit guarantees and unwanted cross-border capital flows.
- Suggested venue: "Germany will benefit from (and could be part of) a coordinated exit at the EU level."

### Financial stability framework and supervisory reform
- Reform focus: "Key elements of the reform are banking supervision and the bank resolution regime."
- Current supervisory arrangement: BaFin and the Bundesbank share duties; "The Bundesbank performs on-site supervision under instructions issued by BaFin," while BaFin can commission special audits and "has overall responsibility for the supervision of banks."
- Criticism of current arrangement: described as "duplicative and creating coordination and informational issues, creating delays in taking enforcement actions, and weakening accountability and potentially leading to poor decision making."
- Planned change: "The government plans to consolidate all prudential banking supervision into the Bundesbank."
- Organizational considerations and staff views:
  - One national agency with a clear mandate for macroprudential oversight and monitoring systemic risk would have benefits; "The Bundesbank is the natural choice."
  - Staff view: place prudential supervision over the entire financial sector "in particular not only banking but also insurance" to facilitate representation on the European Systemic Risk Board.
  - Proposed market conduct role for BaFin: "BaFin would then become the market conduct supervisor, with responsibility for securities firms and markets and consumer protection for the entire financial sector—an arrangements resembling the so-called twin peaks model."
  - Required attributes: the resulting body must be "both accountable and operationally independent to deliver effective supervision."
  - Transition risk management: authorities "stand ready to manage the transition risks to avoid supervisory lapses"; staff suggested clarifying the final reorganization early and preparing for "speedy implementation by early 2011."

### Bank resolution regime
- Need: "The global financial crisis has reinforced the need for countries to have strong and effective regimes for bank resolution."
- Progress: authorities "have begun to develop a legal framework for resolving systemically important banks in an orderly fashion."
- Features to include: framework should allow for "bridge banks and transactions involving the assumption of liabilities and the purchase of assets."
- Timing: "The authorities agreed that having a permanent bank resolution regime in place by early 2011 would have advantages, given the sunset provisions for SoFFin."
- Contingency: "In case of a delay, staff recommended SoFFin’s powers should be extended as long as needed."
- Non-systemic banks: authorities saw "little need for a special regime" but staff stressed "the slowness and potential disruptiveness of existing corporate insolvency procedures."

### Deposit insurance regime: fragmentation and reform case
- Current structure described: German deposit insurance is "highly fragmentized, reflecting the public-private mix of the banking system."
  - Commercial banks: statutory scheme providing coverage of "€50,000" plus additional collective arrangements.
  - Cooperative banks: rely on collective arrangements.
  - Sparkassen and Landesbanken: combination of collective arrangements and support from their public sponsors; "neither group is currently subject to a statutory scheme."
- Crisis vulnerability illustrated: need for a "€6.7 billion SoFFin guarantee for the commercial banks’ deposit protection scheme during the crisis."
- Structural weakness: association-sponsored schemes "rely largely on after-the-fact contributions from members at the time of stress, which can exacerbate a crisis."
- EU change: "With the EU-initiated further increase of statutory deposit insurance coverage to €100,000 next year, staff saw merit in creating a unified fund for deposit insurance spanning the entire banking system."
- Staff concern: "lack of transparency and legal certainty" and "the high coverage can be difficult to maintain without public support."

### Structural policy adjustment (labor and product markets)
- Crisis mitigation measures credited:
  - "Enhancements of Kurzarbeit during the crisis" and targeted KfW credit programs and the Deutschlandfonds helped limit employment impact.
- Policy balance: need to "adjust these policies to the cycle to avoid impediments for structural change and longer-run growth."
- Example sectoral issue: industry analysts argue Western European car industry "is characterized by excess capacity beyond the immediate effects of the crisis."
- Recommended adjustments:
  - Adjust conditions of the Kurzarbeit scheme "in line with the pace of the recovery."
  - Further increase labor market flexibility by "decreasing both legal and labor-court based employment protection" to support worker reallocation.
  - Tackle obstacles to service sector growth to boost labor demand.
  - Product market reforms (including "enhanced powers for the competition authority" and "measures to enhance competition in network industries") are beneficial.
- Political constraint: authorities see "the political window to implement had narrowed, with the current public debate focused more on the costs than the benefits of past structural reforms."

### Spillovers, openness, and external exposures
- Openness and exposure: Germany is described as "a remarkably open economy and particularly exposed to foreign shocks," highly integrated into global trade and intra-European flows.
- Banking cross-border exposure: between 2000 and Q1 2008, "foreign claims of German banks rose by the equivalent of 37 percentage points of GDP."
- Exposure to Central and Eastern Europe: "German banks have close to 5 percent of their foreign portfolio invested in Central and Eastern European countries," which "exceeds the investment by banks in the U.S., the U.K., or France."
- Policy implication: strengthen domestic sources of growth to contribute to lower current account imbalances, but "the rebalancing should not occur through policies to weaken German competitiveness."
- Recommended domestic measures to aid rebalancing: "additional labor reforms and efforts to bolster service sector activity to aid long-run growth."

*Source: IMF staff report content as provided in the supplied document excerpt.*

### Box 8. Foreign Exposure of German Banks

### Box 8. Foreign Exposure of German Banks

### Build-up of foreign claims (pre-crisis)
- From 2000:Q1 to 2008:Q1, foreign claims of German banks rose by 160 percent to about $4.7 trillion.
- This increase represented a change in the foreign claims to GDP ratio of about 37 percentage points.
- Geographic distribution of the build-up:
  - About half of the build-up went to the euro area and to the U.S.
  - Emerging markets accounted for 8 percent of the increase.
- Source data noted: BIS Consolidated Banking Statistics.

### Deleveraging during the crisis
- Between March 2008 and the end of June 2009, foreign claims of German banks contracted by $1.2 trillion.
- The contraction in German banks’ foreign claims exceeded the decline in other advanced countries.1/
- The bulk of the reduction occurred vis-à-vis other advanced countries, in particular the U.S. and the euro area.
- Within the euro area, a significant part of the adjustment was toward Southern Europe (Greece, Italy, Spain, and Portugal).
- Claims toward Central and Eastern Europe (CEE) contracted only modestly, possibly due to the Vienna initiative or banks’ objective to maintain presence in CEE countries.

### Remaining exposures and simulation findings
- German banks remain exposed to foreign risks.
- Simulation exercises indicate:
  - German banks could suffer significant losses from commercial real estate investments in the U.S. and Spain.
  - Exposures to Southern Europe more generally could lead to significant losses.
  - A reassessment of risks associated with claims on Southern Europe could have a large impact on capital flows within Europe, as German (and also French) banks would significantly reduce their foreign claims to restore capital ratios (see figure in main text).2/

### Notes and methodological points
- 1/ After the third quarter of 2008 U.S. banks aggregate foreign claims rose as a result of the inclusion of new reporters, including in particular the former investment banks.
- 2/ Based on the methodology of the IMF’s Vulnerability Exercise for Advanced Countries (see the companion paper on methodology and theoretical background, Fall 2009).

### Key statistics (preserved exactly as reported)
- 160 percent (growth in foreign claims, 2000:Q1 to 2008:Q1)
- $4.7 trillion (foreign claims level around 2008:Q1)
- change in the foreign claims to GDP ratio of about 37 percentage points
- 8 percent (share of the increase going to emerging markets)
- $1.2 trillion (contraction in foreign claims between March 2008 and end-June 2009)
- Time references: 2000:Q1, 2008:Q1, March 2008, end of June 2009

### Policy implications and related observations (as presented)
- Deleveraging reflected shifts in risk perceptions and led to sizable reductions in foreign claims, particularly to advanced economies and Southern Europe.
- The modest contraction of claims to CEE suggests policy initiatives (e.g., the Vienna initiative) or strategic bank behavior can affect exposure dynamics.
- Simulations imply that adverse shocks in U.S. and Spanish commercial real estate and in Southern Europe could force significant adjustments in cross-border claims and capital positions of German banks, with broader implications for capital flows within Europe.

*Source: Box 8. Foreign Exposure of German Banks (text and tables excerpted from the provided content).*

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

### _cr1085 - 56.      It is proposed that the next Article IV consultation be held on the standard 12-month cycle.

### Key macroeconomic indicators and recent developments
- Total area: 357,041 square kilometers
- Total population (2008): 82.2 million
- GDP per capita (2008): US$ 44,728.51
- GDP growth: 2005 0.7; 2006 3.2; 2007 2.5; 2008 1.2; 2009 -4.9; 2010 1.2 1/; 2011 1.7 1/
- Output gap (percent of potential GDP): 2005 -2.3; 2006 -0.4; 2007 0.9; 2008 1.0; 2009 -4.2; 2010 -3.5; 2011 -2.6
- Unemployment (national accounts definition, millions): Labor force: 2005 43.3; 2006 43.2; 2007 43.3; 2008 43.4; 2009 43.3; 2010 43.2; 2011 43.2
- Unemployment rate (Eurostat definition, percent): 2005 9.1; 2006 8.1; 2007 8.3; 2008 7.2; 2009 7.4; 2010 8.6; 2011 9.3
- Consumer price index (harmonized): 2005 1.9; 2006 1.8; 2007 2.3; 2008 2.8; 2009 0.2; 2010 0.9; 2011 1.0
- Real disposable income 5/: 2005 0.4; 2006 1.3; 2007 -0.1; 2008 0.9; 2009 1.9; 2010 -0.1; 2011 1.6
- Personal saving ratio (percent): 2005 10.5; 2006 10.5; 2007 10.8; 2008 11.2; 2009 12.7; 2010 13.5; 2011 14.3
- External sector: Current account (in percent of GDP): 2005 5.1; 2006 6.1; 2007 7.5; 2008 6.4; 2009 4.8; 2010 5.4; 2011 5.5
- Exports of goods and nonfactor services (growth): 2005 7.7; 2006 12.9; 2007 7.5; 2008 2.9; 2009 -14.2; 2010 4.4; 2011 2.2
- Imports of goods and nonfactor services (growth): 2005 6.6; 2006 11.9; 2007 4.8; 2008 4.3; 2009 -8.7; 2010 0.2; 2011 1.3
- Note: 1/ IMF staff estimates and projections. 2/ Growth contribution. 3/ National accounts definition. 4/ Eurostat definition. 5/ Deflated by the national accounts deflator for private consumption.

### Public finances and projections
- General government expenditure (in billions of euros): 2005 1,050; 2006 1,055; 2007 1,061; 2008 1,090; 2009 1,146; 2010 1,177; 2011 1,174
- General government expenditure (percent of GDP): 2005 46.8; 2006 45.4; 2007 43.7; 2008 43.7; 2009 47.7; 2010 48.1; 2011 46.7
- General government revenue (in billions of euros): 2005 976; 2006 1,016; 2007 1,066; 2008 1,091; 2009 1,067; 2010 1,037; 2011 1,045
- General government revenue (percent of GDP): 2005 43.5; 2006 43.7; 2007 43.9; 2008 43.7; 2009 44.4; 2010 42.4; 2011 41.6
- Overall balance (in billions of euros): 2005 -74; 2006 -38; 2007 51; 2008 -79; 2009 -139; 2010 -129
- Overall balance (percent of GDP): 2005 -3.3; 2006 -1.6; 2007 0.2; 2008 0.0; 2009 -3.3; 2010 -5.7; 2011 -5.1
- Structural balance (in billions of euros): 2005 -50; 2006 -33; 2007 -1; 2008 -11; 2009 -27; 2010 -95; 2011 -95
- Structural balance (percent of GDP): 2005 -2.2; 2006 -1.4; 2007 0.0; 2008 -0.4; 2009 -1.1; 2010 -3.9; 2011 -3.8
- Federal government overall balance (in billions of euros): 2005 -47; 2006 -35; 2007 -19; 2008 -14; 2009 -40; 2010 -85; 2011 -73
- Federal government overall balance (percent of GDP): 2005 -2.1; 2006 -1.5; 2007 -0.8; 2008 -0.6; 2009 -1.7; 2010 -3.5; 2011 -2.9
- General government debt (in billions of euros): 2005 1,524; 2006 1,571; 2007 1,578; 2008 1,644; 2009 1,744; 2010 1,875; 2011 1,998
- General government debt (percent of GDP): 2005 68.0; 2006 67.6; 2007 65.0; 2008 65.9; 2009 72.5; 2010 76.7; 2011 79.5
- Table 6 projections (selected items, in billions of euros): Revenue: 2007 1,066; 2008 1,091; 2009 1,067; 2010 1,037; 2011 1,045; 2012 1,099; 2013 1,141; 2014 1,182; 2015 1,221; 2016 1,266
- Net lending/borrowing (Table 6, in percent of GDP): 2007 0.2; 2008 0.0; 2009 -3.3; 2010 -5.7; 2011 -5.1; 2012 -4.0; 2013 -3.0; 2014 -2.3; 2015 -1.7; 2016 -1.2
- Primary balance (percent of GDP): 2007 3.0; 2008 2.8; 2009 -0.6; 2010 -3.1; 2011 -2.5; 2012 -0.9; 2013 0.0; 2014 0.6; 2015 1.0; 2016 1.5
- Memorandum: Structural balance: 2007 0.0; 2008 -0.4; 2009 -1.1; 2010 -3.9; 2011 -3.8; 2012 -3.3; 2013 -2.7; 2014 -2.2; 2015 -1.7; 2016 -1.2

### Balance of payments and medium-term outlook (Table 5 & projections)
- Current account (in billions of euros): 2007 183; 2008 160; 2009 115; 2010 132; 2011 138; 2012 133; 2013 127; 2014 121; 2015 113
- Current account (percent of GDP): 2007 7.5; 2008 6.4; 2009 4.8; 2010 5.4; 2011 5.5; 2012 5.1; 2013 4.7; 2014 4.4; 2015 4.0
- Trade balance (in billions of euros): 2007 186; 2008 178; 2009 122; 2010 162; 2011 183; 2012 193; 2013 203; 2014 218; 2015 232
- Exports (in billions of euros): 2007 984; 2008 984; 2009 796; 2010 832; 2011 856; 2012 880; 2013 910; 2014 947; 2015 985
- Imports (in billions of euros): 2007 -798; 2008 -806; 2009 -674; 2010 -670; 2011 -673; 2012 -687; 2013 -707; 2014 -729; 2015 -753
- Balance on factor income (in billions of euros): 2007 51; 2008 45; 2009 26; 2010 -1; 2011 -14; 2012 -28; 2013 -41; 2014 -58; 2015 -74
- FDI, net (in billions of euros): 2007 -90; 2008 -92; 2009 -65; 2010 -62; 2011 -66; 2012 -69; 2013 -71; 2014 -73; 2015 -75
- Capital and financial accounts (in billions of euros): 2007 -237; 2008 -206; 2009 -115; 2010 -132; 2011 -138; 2012 -133; 2013 -127; 2014 -121; 2015 -113

### Banking sector exposures and financial soundness indicators (selected)
- BIS: Total foreign claims on all countries (December 31, 2009): All countries total assets 3,462.1; off-balance sheet items 5,757.2; derivatives 3,929.5; total 1,147.8; 680.0 (table entries preserved as provided)
- Total bank assets (memorandum): 11,305.9 (in billions of U.S. dollars)
- Nominal GDP (memorandum): 3,361.6 (in billions of U.S. dollars)
- Core FSIs for banks (Table 3, selected ratios, percent):
  - Regulatory capital to risk-weighted assets (1999–2008 series): examples: 1999 10.8; 2000 10.9; 2001 11.2; 2002 11.9; 2003 12.4; 2004 12.4; 2005 12.2; 2006 12.5; 2007 12.9; 2008 13.6
  - NPLs to gross loans (percent): 1999 4.1; 2000 4.6; 2001 4.5; 2002 5.0; 2003 5.2; 2004 4.9; 2005 4.0; 2006 3.4; 2007 2.6; 2008 2.8
  - Return on average assets (after-tax, percent): 1999 0.2; 2000 0.2; 2001 0.2; 2002 0.1; 2003 -0.1; 2004 0.1; 2005 0.3; 2006 0.3; 2007 0.2; 2008 -0.3
- Encouraged FSIs and other indicators (Table 4, selected):
  - Household debt to GDP (percent): 1999 72.9; 2000 73.4; 2001 72.7; 2002 72.4; 2003 72.5; 2004 71.2; 2005 70.0; 2006 67.4; 2007 63.7; 2008 61.4
  - Household debt service and principal payments to income (percent): 1999 5.4; 2000 4.7; 2001 5.1; 2002 5.0; 2003 4.7; 2004 4.2; 2005 3.9; 2006 3.7; 2007 3.8; 2008 4.1
  - Residential real estate loans to total loans (percent): 1999 16.2; 2000 16.4; 2001 16.1; 2002 16.2; 2003 18.0; 2004 17.8; 2005 17.8; 2006 17.7; 2007 16.5; 2008 15.7

### Fund relations, mission, and AML/CFT assessment
- Mission: January 28 to February 8, 2010 in Frankfurt, Bonn, and Berlin. Staff team included Messrs. Kähkönen (Head), Berger, Schindler, Clausen (all EUR), Seelig (MCM), Tressel (RES), and Ms. Luedersen (LEG).
- Membership status: Joined August 14, 1952; Article VIII.
- Quota (SDR Million): Quota 13,008.20 (100.00 percent of quota). Fund holdings of currency 10,838.07 (83.32). Reserve position in Fund 2,170.15 (16.68). Lending to the Fund 338.10.
- Projected payments to Fund (SDR Million; forthcoming): Charges/Interest 0.90 for 2010; 0.90 for 2011; 0.90 for 2012; 0.90 for 2013; 0.90 for 2014. Total 0.90 each year.
- Exchange rate arrangement: Germany’s currency is the euro, which floats freely and independently.
- AML/CFT assessment (May 2009; adopted Feb 17-19, 2010): Findings and recommended actions include:
  - Amend the Criminal Code to criminalize (i) ML in a way that covers all serious predicate offenses, and (ii) TF in a way fully consistent with international standards.
  - Amend the AML Act to: (i) improve preventive measures notably by imposing a reporting obligation based on suspicion rather than knowledge and that relates to the proceeds of criminal activity; and (ii) clearly establish that the FIU should carry out more of the core functions of an FIU as contemplated by the FATF standard.
  - Fully and effectively implement the UN Security Council Resolutions (UNSCRs) on TF.
  - Apply sanctioning powers more effectively for breaches of AML/CFT obligations.
  - Strengthen effective implementation of AML/CFT obligations imposed on designated non-financial businesses and professions (DNFBPs).
  - Improve the collection of statistics and the provision of guidance and feedback to FIs.
- Germany has made a clear commitment to further strengthen the national system for prevention, detection and suppression of money laundering and terrorist financing.

### Statistical issues and data dissemination
- Data provision is adequate for surveillance; Germany subscribes to the Fund’s SDDS.
- Adoption: ESA95 in 1999.
- ROSC Data Module report published January 2006; findings include:
  - Macroeconomic statistics generally follow internationally accepted standards; however, sources for estimating value added for a few service categories could be improved.
  - Lack of a direct source for quarterly changes in inventories.
  - No systematic, proactive process to monitor representativeness of samples of local units and products between rebases of the producer price index.
  - Differences exist between general government data in ESA95 classification (accrual basis) and general government cash data on an administrative basis, impairing fiscal analysis; Germany publishes ESA95 quarterly accrual data through Eurostat and submits annual GFSM 2001 format data; monthly data are only disseminated on a cash-basis.
- Germany participates in the Coordinated Compilation Exercise for FSIs; in 2006 compiled a comprehensive set of FSI data and metadata.
- Table of Common Indicators Required for Surveillance (as of February 23, 2010) included frequencies and data quality assessments for a wide range of series (exchange rates, reserve assets, monetary aggregates, central bank balance sheet, banking system consolidated balance sheet, interest rates, CPI, government finance, external accounts, GDP/GNP, gross external debt, international investment position), with methodological soundness and accuracy/reliability characterizations referenced to the 2006 ROSC.

### IMF Executive Board conclusion (PIN No. 10/44)
- The Executive Board concluded the 2010 Article IV consultation with Germany on March 29, 2010.
- Background summary from PIN:
  - Germany was hit exceptionally hard by the global crisis, but strong policies helped to avoid an even deeper recession.
  - After a sharp fall in real GDP in the first half of 2009, broad-based policy support and an uptick in global demand lifted the economy in the second half, keeping the GDP contraction to 4.9 percent for 2009.
  - The recovery is expected to continue at a moderate pace, with real GDP growth projected to reach 1.2 percent in 2010 and 1.7 percent in 2011.

*Prepared by European Department; Staff Report for the 2010 Article IV Consultation—Informational Annex (March 10, 2010).*

### 2011. There are substantial downside risks, however, reflecting remaining banking weaknesses

### _cr1085 - 2011. There are substantial downside risks, however, reflecting remaining banking weaknesses

### Outlook and risks
- Recovery likely to be moderate and fragile, reflecting reliance on export demand and risks from continuing financial sector problems.
- Substantial downside risks include:
  - Remaining banking weaknesses.
  - Possibility of weaker-than-expected global trade.

### Fiscal policy: actions, outlook, and strategy
- 2009 fiscal support:
  - Direct spending, tax cuts, the cash-for-clunkers scheme, and employment subsidies boosted demand in 2009.
  - General government deficit increased to 3¼ percent of GDP from a broadly balanced budget the year before.
- 2010 projections and measures:
  - Implementation of remaining stimulus measures and additional tax cuts and transfers are projected to bring the deficit to 5½ percent of GDP in 2010, nearly twice the limit set by the European Union’s Stability and Growth Pact (SGP).
  - Authorities implemented additional measures amounting to around €6 billion or ¼ percent of GDP in 2010 via the “Economic Growth Acceleration Act” (Wachstumsbeschleunigungsgesetz) (entered into force January 1, 2010).
  - Most government measures to stabilize the financial system and to support companies and consumers will expire at the end of 2010.
- Medium-term strategy:
  - New constitutional rule requires the structural federal fiscal balance to be near zero starting in 2016.
  - From 2011 onwards, focus will be on fiscal consolidation consistent with the European Stability and Growth Pact and the new national constitutional rule (Schuldenbremse).
  - Authorities pursue a medium-term goal of a close-to-balance government budget in structural terms.
  - Any tax cut in 2011 should be accompanied by compensating budgetary measures; authorities do not intend to increase VAT rates.
  - Planned raise of the unemployment contribution rate from 2.8 percent to 3 percent scheduled for January 1, 2011.
  - Authorities plan a simpler tax system with lower tax rates and measures to reduce bureaucracy, targeted to enter into force on January 1, 2011.
- Fiscal outcomes and projections (from text):
  - General government balance: -3.3 (2009), -5.7 (2010 staff table), -5.1 (2011 staff table).
  - General government structural balance: -1.1 (2009), -3.9 (2010), -3.8 (2011).
  - General government debt: 72.5 (2009), 76.7 (2010), 79.5 (2011).
  - Authorities projected debt to GDP ratio: 73 percent in 2009; expected to increase to 77 percent in 2010 and to reach around 82 percent by 2013.

### Financial sector: stabilization, vulnerabilities, and reforms
- Crisis measures and stabilization:
  - Recapitalizations and credit guarantees through the Sonderfonds Finanzmarktstabilisierung (SoFFin) and public commitments to protect household bank deposits helped stabilize markets and mitigate systemic risk.
  - SoFFin provided guarantees and funding for recapitalization of financial institutions.
- Remaining vulnerabilities:
  - Credit risks from a still fragile recovery and sizeable remaining write-downs.
  - Banks’ exposure to emerging and Southern European markets.
  - Structurally unprofitable Landesbanken continue to pose systemic risks.
- Supervisory and resolution reforms:
  - Authorities intend to make the Bundesbank the sole prudential bank supervisor; detailed reform proposals to be presented in the summer; new supervision structure scheduled to become effective in spring 2011.
  - Plan to develop a legal framework for an effective bank resolution regime to enable early interventions, managed resolution, and orderly wind-down of systemically-important banks; framework aims to ensure appropriate financial contribution of the private sector.
  - Authorities intend to undertake a Financial Sector Assessment Program (FSAP) update.
  - Directors welcomed plans to overhaul the financial stability framework and the intention to make the Bundesbank sole supervisor, stressing accountability and operational independence.
- Deposit protection and deposit insurance:
  - Deposit insurance system proven effective during the crisis; no depositor lost protected deposits during the crisis across private banks, Sparkassen, and Kreditgenossenschaften.
  - Germany is actively participating in EU-level discussions to make depositor protection more efficient.
- Landesbanken:
  - Larger public banks (the Landesbanken) will require additional restructuring and major consolidation to enhance financial stability and reduce fiscal support.
  - Ongoing restructuring process expected to downsize/change business models in line with EU state aid rules; Länder governments committed to reform.

### Labor market and structural adjustment
- Labor market performance:
  - Unemployment increased slowly owing to past labor market reforms and crisis policies (Hartz IV reforms, short-time work scheme).
  - Short-time work (Kurzarbeit) and increased firm-level flexibility helped avoid mass dismissals in 2009.
  - With diminished growth outlook, firms—especially in the hard-hit manufacturing sector—will eventually adjust their workforce.
- Risks and reform needs:
  - High employment protection could test overall flexibility during structural adjustment.
  - Existing obstacles to services sector development and product market competition increase the danger of a drawn-out structural adjustment.
  - Directors called for phasing out special labor market policies introduced during the crisis and undertaking structural reforms to raise longer-term growth and domestic demand.
  - Authorities intend to adjust labor market policies to the pace of the recovery and implement structural reforms to strengthen domestic demand.

### Executive Board Assessment and recommendations
- Directors’ summary:
  - Timely and appropriate policy response and recovery of exports helped lift the economy from recession.
  - Recovery likely moderate and fragile; authorities must sustain recovery while preparing to exit extraordinary measures as part of an internationally coordinated strategy.
- Fiscal policy recommendations:
  - Transition from support to credible consolidation over time.
  - Start fiscal consolidation once recovery becomes self-sustaining (projected for 2011).
  - A credible consolidation plan with strong measures focused on expenditures is needed to reach medium-term targets.
  - Any 2011 tax cut should be accompanied by compensating budgetary measures.
  - Welcomed the new fiscal constitutional rule imposing limits on the government’s structural deficit.
- Financial sector recommendations:
  - Continue repair and restructuring of balance sheets and make permanent improvements to financial stability institutions consistent with EU initiatives.
  - Strengthen capital buffers for most banks.
  - Undertake additional restructuring and major consolidation of Landesbanken.
  - Ensure Bundesbank’s role as sole supervisor is accompanied by accountability and operational independence.
  - Strengthen and unify Germany’s fragmented deposit protection scheme in light of evolving EU initiatives.
- Structural policy recommendations:
  - Phase out crisis labor market policies and undertake structural reforms to raise long-term growth and domestic demand.
  - Simultaneous measures to increase labor market flexibility and reduce obstacles to product and service market development will enhance efficiency and foster domestic demand.
  - Strengthening domestic sources of growth will help cushion Germany against external shocks and reduce trade and payments imbalances.

### Selected economic indicators (staff estimates and projections where indicated)
- Real economy (change in percent):
  - Real GDP: 0.7 (2005), 3.2 (2006), 2.5 (2007), 1.2 (2008), -4.9 (2009), 1.2 (2010 1/), 1.7 (2011 1/)
  - Total domestic demand: 0.0 (2005), 2.2 (2006), 1.0 (2007), 1.7 (2008), -1.6 (2009), -0.8 (2010 1/), 1.3 (2011 1/)
  - CPI (average): 1.9 (2005), 1.8 (2006), 2.3 (2007), 2.8 (2008), 0.2 (2009), 0.9 (2010 1/), 1.0 (2011 1/)
  - Standardized unemployment rate (in percent): 9.1 (2005), 8.1 (2006), 8.3 (2007), 7.2 (2008), 7.4 (2009), 8.6 (2010 1/), 9.3 (2011 1/)
  - Employment growth: -0.1 (2005), 0.7 (2006), 1.7 (2007), 1.4 (2008), -0.2 (2009), -1.6 (2010 1/), -0.7 (2011 1/)
  - Gross national saving (percent of GDP): 22.5 (2005), 24.3 (2006), 26.3 (2007), 25.4 (2008), 22.8 (2009), 23.7 (2010 1/), 23.9 (2011 1/)
  - Gross domestic investment (percent of GDP): 17.4 (2005), 18.2 (2006), 18.8 (2007), 19.0 (2008), 18.0 (2009), 18.3 (2010 1/), 18.4 (2011 1/)
- Public finance (percent of GDP):
  - General government balance: -3.3 (2009), -5.7 (2010), -5.1 (2011)
  - General government structural balance: -1.1 (2009), -3.9 (2010), -3.8 (2011)
  - General government debt: 68.0 (2005), 67.6 (2006), 65.0 (2007), 65.9 (2008), 72.5 (2009), 76.7 (2010), 79.5 (2011)
- Money and credit (end of year, percent change) 2/:
  - Credit to private sector: 2.1 (2005), 3.5 (2006), 3.2 (2007), 6.5 (2008), -0.7 (2009), -1.5 (2010)
  - M3: 5.2 (2005), 4.9 (2006), 10.7 (2007), 9.6 (2008), -1.4 (2009), -2.5 (2010)
- Interest rates (percent):
  - Money market rate 3/: 2.1 (2005), 3.7 (2006), 4.8 (2007), 3.4 (2008), 0.7 (2009), 0.6 (2010)
  - Government bond yield 3/: 3.6 (2005), 3.8 (2006), 4.3 (2007), 3.2 (2008), 3.2 (2009), 3.2 (2010)
- Balance of payments (percent of GDP):
  - Current account balance: 5.1 (2005), 6.1 (2006), 7.5 (2007), 6.4 (2008), 4.8 (2009), 5.4 (2010), 5.5 (2011)
  - Trade balance: 6.4 (2005), 6.3 (2006), 7.7 (2007), 7.1 (2008), 5.2 (2009), 6.9 (2010), 7.5 (2011)
  - Exports (percent of GDP): 35.3 (2005), 38.9 (2006), 40.5 (2007), 39.4 (2008), 33.4 (2009), 34.6 (2010), 34.6 (2011)
    - Export volume (annual percent change): 7.6 (2005), 12.7 (2006), 7.5 (2007), 3.0 (2008), -16.4 (2009), 5.6 (2010), 2.2 (2011)
  - Imports (percent of GDP): 28.8 (2005), 32.6 (2006), 32.8 (2007), 32.3 (2008), 28.3 (2009), 27.7 (2010), 27.1 (2011)
    - Import volume (annual percent change): 7.1 (2005), 13.7 (2006), 4.8 (2007), 5.0 (2008), -9.9 (2009), 1.3 (2010), 1.3 (2011)
  - Net oil imports (billions of US$): 61.4 (2005), 78.8 (2006), 79.5 (2007), 117.0 (2008), 70.8 (2009), 89.7 (2010), 94.5 (2011)
  - FDI balance: -1.0 (2005), -2.4 (2006), -3.7 (2007), -3.7 (2008), -2.7 (2009), -2.5 (2010), -2.6 (2011)
  - Official reserves minus gold (billions of US$) 4/: 45.1 (2005), 41.7 (2006), 44.3 (2007), 43.1 (2008), 60.4 (2009)
- Exchange rate:
  - Exchange rate regime: Participant in euro zone
  - Present rate (December 31, 2009): Euro 0.7 per US$
  - Nominal effective rate (2000=100): 110.3 (2005), 112.3 (2006), 115.9 (2007), 116.0 (2008), 117.0 (2009), 115.8 (2010)
  - Real effective rate (2000=100): 103.2 (2005), 97.0 (2006), 97.3 (2007), 92.6 (2008), 91.7 (2009), 90.7 (2010)

*Source: IMF staff report and Executive Board discussion materials contained in the provided content.*

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_Source: https://www.imf.org/-/media/websites/imf/imported-full-text-pdf/external/pubs/ft/scr/2010/_cr1085.pdf_