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Transcript of a Press Conference Call: Introductory Remarks by Mr. Juha Kahkonen, Mission Chief to Germany and Senior Advisor, IMF European Department
February 27, 2008
The IMF's Executive Board held its annual discussion of Germany's economy last Friday, and I would like to highlight the main conclusions.
We recognize that Germany's economy has done well in recent years. Growth has been strong, jobs have been created, and the fiscal position is now the best since unification. In our view, this good performance reflects the major reform and consolidation efforts by the German authorities over the past several years.
But Germany still faces economic challenges:
• In the short term, the challenge is to deal with the subprime-related banking problems and slower global growth. Reflecting these factors, we project Germany's GDP growth to decline from 2.5 percent in 2007 to 1.5 percent in 2008.
• In the longer term, the challenge is to raise productivity and potential growth to preserve the hard-won gains. In that regard, we are concerned that some past reforms have been reversed recently.
What is the IMF's advice to Germany at this juncture?
To meet the short-term challenge of maintaining economic confidence, we would stress two things:
• First, the 2008 budget will provide some fiscal stimulus that should support growth. Given the need for medium-term fiscal consolidation to prepare for the aging of the population, IMF staff would see further fiscal stimulus appropriate only if there was a substantial further weakening in the growth prospects.
• Second, it is important to preserve confidence in the financial sector. Most banks have relatively sound financial positions, and the low reliance of consumers and firms on credit has so far helped to maintain reasonably normal lending conditions. Nevertheless, consumer and business confidence has weakened, and banks are facing continuing difficulties. To improve incentives for prudent bank management, we recommend that instead of using public funds to rescue non-systemic banks, Germany should adopt a bank resolution framework that allows for quick resolution and dilution of all shareholders' equity. We also advocate more transparency in reporting the banks' financial positions so that off-balance-sheet activities can be captured better.
Turning to the longer-term challenge of raising productivity and potential growth, we recommend action on several fronts:
• First, Germany needs a stronger financial sector. This requires improved bank supervision, a restructuring of the banking sector, deeper capital markets, and better corporate governance. On bank supervision, the IMF Board considered the recent new protocol between BaFin and the Bundesbank to be a step in the right direction; we in the IMF staff would have gone further and recommended consolidating bank supervision and prudential enforcement in one or the other of these institutions so as to enhance accountability. On restructuring the banking system, global competition is likely to continue to erode the traditional business models of the Landesbanken and other banks that only serve targeted communities. We advocate bank restructuring guided by the goal of creating robust and sustainable banks, while allowing private capital to play its role. Finally, we see scope to develop Germany's capital markets by improving corporate governance through measures like rationalizing company supervisory boards and strengthening disclosure standards.
• Improved labor markets are also needed to raise Germany's growth potential. In this regard, the IMF Board regretted the new sectoral minimum wages which can undermine work incentives. What would be measures in the right direction? Skill shortages in the labor market need to be addressed, active labor market programs streamlined, and taxes on capital and labor reduced.
• Medium-term success also requires continued fiscal consolidation once the current turmoil is over. We support the government's goal of a structural surplus of ½ percent of GDP by 2011, but believe that new measures are needed to achieve this goal, and recommend cutting subsidies and tax expenditures. For the longer term, health care expenditures will need to be tackled.
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