Germany: Staff Concluding Statement of the 2017 Article IV Mission
IMF News, May 15, 2017
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- Published: May 15, 2017
Overview
- Germany’s open and innovative economy has been performing well, underpinned by prudent economic management, past structural reforms, and a well-developed social safety net.
- Employment growth is strong, the unemployment rate is at a record low, growth is above potential, and the fiscal position keeps strengthening.
- Despite high and rising capacity utilization and job vacancy rate, wage growth and core inflation remain subdued and business investment lacks momentum.
- Adverse demographics weigh on long-term growth prospects.
- The large and persistent current account surplus reflects high domestic savings and better investment opportunities abroad, as well as external factors.
- Recommendation: embrace a set of coordinated fiscal and structural policies to safeguard strengths and address remaining challenges, including reducing external imbalances.
Key policy recommendations
- Use available fiscal space for initiatives that enhance growth potential:
- Investment in physical and digital infrastructure.
- Child care.
- Refugee integration.
- Relief of the tax burden on labor.
- Pension reforms to make it attractive to work longer to increase old-age income, boost potential output, improve the fiscal outlook, and reduce the need to save for retirement.
- Accelerate competition-enhancing reforms in some network industries and professional services; continue policy focus on innovation and the digital economy.
- Continue attention to relative poverty risk; anti-poverty policies should preserve achievements of past labor market reforms.
- Monitor mortgage market developments closely as housing prices accelerate; address important data gaps.
Near-term outlook and risks
- Cyclical upswing expected to continue in the near term.
- 2016: GDP growth firmed, driven by strong public and private consumption and construction activity; exports and equipment investment held back by weak external demand.
- 2017: growth should remain stable as foreign demand is expected to strengthen and consumption to soften due to higher commodity prices curbing real income growth.
- Economic immigration should continue to provide significant contribution to employment growth; inflow of asylum-seekers slowed from its 2016 peak and refugees are gradually entering the labor force.
- Rapid house price increases should continue to bolster investment in construction.
- Risks: balanced in the short term; predominantly tilted to the downside in the longer run (e.g., anti-globalization policies abroad; insufficient reform progress in the euro area).
Labor market, wages, and inflation
- Hartz reforms: labor force participation has been rising and unemployment falling, with large gains in employment, also fed by immigration.
- Surge in labor supply initially reinforced downward pressures on low wages but did not increase labor income inequality due to powerful positive employment effects.
- Wage and labor earnings inequality broadly stable since 2010; minimum wage level deemed sufficiently prudent to avoid significant employment harm while raising the wage floor.
- Despite increasing signs of labor market tightness, average wage gains have been subdued.
- Baseline forecast: gradual demand-driven rise in wage, core, and headline inflation, consistent with tight labor market conditions.
- Risk: wages may not respond sufficiently, resulting in protracted low inflation in Germany and slower-than-expected normalization of inflation and monetary conditions in the euro area.
- Policy note: authorities could emphasize the importance of robust wage and price growth while respecting autonomy of social partners in wage setting.
External balance
- 2016: Germany’s current account surplus was the world’s largest in U.S. dollar terms; ratio to GDP edged down from 8.6 to 8.3 percent.
- Surplus expected to narrow slowly over the medium term as energy and other import prices recover, private investment strengthens, and wage growth supports domestic demand and competitiveness realignment.
- Under current policies, projected adjustment is limited — about 1 percent of GDP by 2022.
- Policies to boost public and private investment and reduce the need for private saving (e.g., promoting longer working lives) would accelerate external rebalancing.
Fiscal position and recommendations
- Debt fell to 68.3 percent of GDP in 2016.
- 2016 general government surplus climbed to 0.8 percent of GDP.
- Primary spending rose (including for refugees), but higher tax revenues from favorable labor market performance and buoyant corporate tax receipts, plus a decline in the interest bill, more than compensated.
- Moderate fiscal stimulus expected in the current year (higher social spending, some income tax relief, larger public investment) while preserving a comfortable buffer above European and national fiscal rules; forecasted buffer to rise over coming years.
- Policy guidance:
- Use fiscal space to raise growth potential by encouraging investment, promoting labor supply, and boosting productivity.
- Reduce the large and increasing tax burden on labor to support labor supply.
- Overcome barriers to expanding investment in public infrastructure, accelerate initiatives to rebuild staffing capacity (particularly at the local level) for planning and administration of investment projects.
- Federal Infrastructure Corporation for Highways is welcome to ensure a more stable and efficient framework for transport investment.
- Expand childcare and after-school programs; provide vocational training to refugees; foster digitalization and innovation.
Fiscal planning and revenue projections
- Tax revenue projections (especially for personal income taxes) have proven overly conservative post-crisis, resulting in a tighter fiscal stance than originally intended.
- Persistent bias partly explained by underestimation of employment growth in official macroeconomic forecasts.
- Recommendation: re-examine macroeconomic relationships underlying revenue projections and estimated tax sensitivity to macroeconomic developments to enable more precise fiscal planning.
Pensions and long-term sustainability
- If fiscal space under rules is fully used and considering a wide range of realistic macroeconomic shocks, government debt would still decline rapidly with high probability.
- Long-term fiscal sustainability is challenged by rising aging costs.
- Pension reforms that make it more attractive to extend working lives would lower the pension bill, raise growth, reduce household saving needs, and help lower external imbalances.
- Resulting sustainability gains could facilitate some relaxation of fiscal targets in the medium and long term.
Social cohesion and poverty
- Disposable income inequality (Gini coefficient) broadly stable over the last decade and near the European median.
- Slow secular rise of the at-risk-of-poverty rate warrants attention.
- New social cohesion measures from the authorities’ Fifth Poverty and Wealth Report were put in place; impact too early to assess.
- If poverty risk does not recede, consider reviewing targeting and effectiveness of some social benefits.
- Anti-poverty policies should preserve achievements of past labor market reforms.
- Measures to enhance labor force participation of women with children and facilitate refugee labor market integration recommended.
Competition, innovation, and digitalization
- Need to accelerate competition-enhancing reforms in some network industries and professional services.
- Recent law to boost railways efficiency strengthens regulator but has limited effect on long-distance passenger competition.
- No new competition-enhancing measures in postal services; regulator should prevent discrimination against smaller competitors and new entrants.
- Government’s 2016 National Action Plan on regulated professions contains limited measures; some professions remain overregulated.
- Digitalization:
- Germany is an innovation leader in Europe, but network infrastructure and skilled labor shortages hold back progress.
- Average stock of capital per worker in ICT is low in international comparison; Germany ranks 25th in average download speeds.
- Federal financial support for fast broadband in remote areas and a public/private initiative to promote ultrafast internet underway.
- Digital Networks Act will reduce cost of rolling out optical fiber; regulatory frameworks adapting to digitalization advances.
- “High-Tech Strategy” initiatives to promote innovation and foster venture capital (grants, equity financing, preferential tax treatment) are welcome; sustain current momentum.
Housing and macroprudential measures
- Housing prices remain in line with fundamentals at the aggregate level, though hot spots are developing as prices accelerate.
- Government measures: stepped-up sales of federally-owned land and properties below market price for affordable housing, more funds for social housing, promotion of building code harmonization.
- To significantly boost short-term supply, complement federal measures by encouraging local authorities to relax zoning and height restrictions.
- New legislation introduces loan-to-value ratios and amortization requirements but omits debt-to-income and debt-service-to-income ratios.
- New law does not grant supervisors power to request loan-level data — a key prerequisite for effective macroprudential instruments.
- Recommendation: conduct a regular (at least annual) survey in hotspots to assess household leverage, loan affordability, and concentration of bank exposure to partially overcome data gaps.
Financial sector resilience
- Banking sector:
- Regulatory capital generally comfortable, but cost-to-income and leverage remain high.
- Low profitability reflects structural inefficiencies, crisis legacy issues, compliance provisions, and adjustment to new regulation.
- Lower and flatter yield curves erode margins, especially in smaller retail banks.
- Supervisors monitor interest rate risk via regular stress tests and scenario simulations (including ‘low for long’) and have imposed additional capital requirements on the most exposed banks.
- Life insurance sector:
- Low interest rates hurt solvency ratios; large duration gaps must be reduced through investment strategy changes and less reliance on guaranteed return products.
- Supervisors closely monitor firms with high shares of guaranteed return products, large duration gaps, and low reserves for unrealized gains.
Conclusion
- The mission thanks the authorities for their cooperation and willingness to engage in extensive and frank policy discussions.
IMF Staff Concluding Statement, May 15, 2017