Berlin The high office of institutional economics in Germany meets once a year. At the Leibniz Summit, the heads of the seven major research institutes will discuss the most pressing economic policy issues. In most cases, surprising findings should not be expected in the past.
On this Tuesday, however, the signs had changed. The economic development in Germany is more uncertain than ever before, and the assessments differed accordingly.
The Russian war of aggression against Ukraine and the energy crisis are a burden, but at the same time the economy is catching up more than expected, which was not possible during the corona pandemic. The big question is: will Germany experience a recession in 2023 or not?
Florian Heider, scientific director of the Leibniz Institute for Financial Market Research (Safe) in Frankfurt, explained the situation using a football comparison: Before the game everyone thought “we were 0: 3 behind at halftime”. Now it would still be 0-0 with ten minutes to go. “But we can still lose the game.”
In essence, there are five factors whose development determines whether a recession will occur.
Pro recession: With the turnaround in interest rates, the ECB is putting a spell on the economy
The euro zone, and Germany in particular, appear to have passed the peak of inflation. However, this does not mean that the high inflation rates will come to an end. The inflation rate in January was 8.5 percent in the euro area and 8.7 percent in Germany.
“It is very important that the price signals are maintained.”
(Photo: Imago Images)
This is still a long way from the European Central Bank’s (ECB) target of two percent. The central bankers are therefore likely to stick to their course of tightening monetary policy for some time.
At the same time, the turnaround in interest rates has an enormous impact on the economy. Higher interest rates affect aggregate demand in all areas. “Recessions are mostly triggered by central banks,” said Reint Gropp, President of the Halle Institute for Economic Research (IWH).
Heider vom Safe explained that it takes one and a half to two years for monetary policy decisions to take effect in the real economy. The first time the ECB raised interest rates was only around six months ago. “Postponed is not cancelled. I expect we’re going to see a recession,” Heider said.
The dreaded price-wage spiral could also contribute to this. This would come into play when workers exaggerate their wage demands due to inflation, so that they can ultimately consume more and thus further fuel inflation. Then the ECB would probably have to tighten interest rate screws even more.
Recessions are mostly triggered by central banks. Reint Gropp, Halle Institute for Economic Research (IWH)
So far that has not been seen, said Gropp. “That’s yet to come.” Most recently, the Verdi union demanded a 15 percent increase in salary for post office employees and 10.5 percent for public sector employees. However, the President of the Ifo Institute in Munich, Clemens Fuest, does not expect this to become a general phenomenon. “Apart from the post office, I haven’t seen an area that’s completely out of control,” he said.
Against recession: Economy is much more busy than estimated
The growth forecasts of the institutes for 2023 are all around zero percent at the moment. However, they could be based on an inaccurate estimate. The extent to which the economy is working to capacity is decisive for economic development. This is usually estimated using complicated mathematical methods. It is currently emerging that the economy is underutilized.
However, surveys of companies conducted by the Ifo Institute come to very different conclusions. As a result, the economy is very busy. “We have never seen such a large discrepancy,” said Stefan Kooths, Vice President of the Kiel Institute for the World Economy (IfW).
One reason for this drifting apart could be the shortage of workers, which the models may not be able to adequately depict.
“Part of the surge in inflation that we are currently experiencing is also a receipt for the highly expansive monetary policy from the corona pandemic.”
(Photo: Imago Images)
If the economy is really working at much higher capacity, that would be a good sign for the economy. Then a slowdown in the economy wouldn’t be such a big problem. If demand falls, for example due to the turnaround in interest rates, this would not drive companies into crisis, but only into normal mode. “Therefore, we don’t have to worry about cooling down so much,” said Kooths.
Pro Recession: The government is helping the economy in the wrong places
The green transformation of industry and the US subsidy program Inflation Reduction Act have triggered a desire for more state support for the economy in Germany. The economists at the Leibniz summit declared with surprising unanimity that the trend could be going in the wrong direction.
“I’m very worried that we’ll get into a subsidy race,” said Marcel Fratzscher, President of the German Institute for Economic Research (DIW) Berlin. Politicians must focus on creating better framework conditions. General subsidies, on the other hand, harbor the risk that fossil fuels would also be subsidized unnecessarily.
“I’m very concerned that we’re going into a subsidy race.”
(Photo: Imago Images)
His colleagues went even further and were also skeptical about state aid for green technologies. “Subsidies have a real problem because they always only take part of the supply chain,” said Achim Wambach, President of the Center for European Economic Research (ZEW) Mannheim.
Kooths added that it was absurd to lure new energy-intensive industries such as battery production to Germany with state money. Subsidies do not create a better figure, they are just “a corset that only squeezes the fat away”.
An industrial policy misguided from the point of view of the economists would probably not directly trigger a recession in 2023. In the medium term, however, it could block the money and the focus for other measures to stimulate the economy, according to the opinion of the Leibniz round.
Against recession: The domestic market is developing stably
The trade-intensive German economy depends above all on things going well in the domestic market. That increasingly seems to be the case. According to the EU Commission, Europe will be able to avoid a recession this year, and Germany could be drawn into this maelstrom.
The economy in the euro zone is expected to grow by 0.9 percent in 2023, and growth of 0.8 percent is expected throughout the EU. “At EU level, the economy seems to be reasonably stable,” said Thomas Bauer, Vice President of the Leibniz Institute for Economic Research (RWI) Essen.
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