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Should Germany spend more to revive its economy?

BMW workers assemble electric cars on an assembly line in LeipzigImage copyright
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BMW workers assemble electric cars on an assembly line in Leipzig

The eurozone has a problem. Its largest economy, Germany, is in or near recession.

This further stimulated the debate over whether Berlin should open the financial taps and spend more.

Should Germany launch a spending program on, for example, its infrastructure?

Should the government abandon its policy of balancing the budget, known as the "black zero" and the legal constraint on loans called the "debt brake"?

We will have some indication of the impact of Germany's slowdown on new eurozone economic growth figures on Thursday, although we have to wait two weeks for a reading of Germany's own performance in the third quarter of the year.

  • Germany struggles to face recession threat
  • German economy grows back negatively

The eurozone as a whole may not be in recession, but inevitably the crisis in Germany affects its neighbors.

The question is what policymakers – especially the German government and the European Central Bank – do about the situation.

The ECB has already taken action. It has cut its interest rates to ultra-low levels (below zero for one of its top rates) and is about to restart the policy known as quantitative easing by buying financial assets with newly created money.

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Chancellor Angela Merkel has taken a cautious approach to the economy

But there are real doubts about the effectiveness of these measures. Many economists believe that monetary policy – which central banks do – has done as much as it can in the eurozone.

Many argue that governments should do more. Current ECB President Mario Draghi and his successor Christine Lagarde, who takes over this week, have embraced this view.

In September Lagarde told the European Parliament: "Some euro area countries may use part of their fiscal space [government spending and taxation] to improve broadband infrastructure and establish public spending that will help fight the recession. "

She did not name countries that could afford to take such measures, but said that this is now true for most of them. The most obvious example is Germany, which has a surplus in its public finances – with higher tax revenue than expenditure – since 2012.

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IMF chief economist Gita Gopinath was explicit on this point in the preface to the recent IMF World Economic Outlook.

"A country like Germany must take advantage of negative lending rates to invest in social capital and infrastructure," she wrote.

Their reference to negative lending rates refers to the fact that Germany and several other countries can lend at an interest rate of less than zero. Indeed, the financial markets pay them to borrow.

Peter Bofinger of the University of Würzburg, a former member of Germany's board of economic experts, agrees with Gopinath that the country must take advantage of these subzero borrowing costs to invest in infrastructure and social housing.

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Some say Germany's transport system needs more investment

Currently, he claims that the net investment in infrastructure – that is, after the wear and tear of existing infrastructure – is less than zero.

The idea that Germany has a problem in this area may come as a surprise. But Professor Bofinger says he often sees the evidence himself. He describes the train journey in the country as "a real adventure – if the train will arrive, how many minutes and hours are late, if you can eat something on the train".

"Transportation is in terrible shape and is a consequence of underinvestment for many years."

He says it is a "tremendous mistake" not to seize the opportunity presented by these favorable loan costs to solve some of these problems.

Tax breaks for business?

He believes the debt brake and black zero policies make no sense. If all major governments followed the black zero policy, "the world economy would end in a black hole," he says.

Of the G20 group of major economies, only two others – Russia and South Korea – currently have surplus government budgets.

But Professor Bofinger is not in favor of using the infrastructure program in the short term as a stimulus for a declining economy. The construction industry is already working at full capacity.

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Some believe Germany has already gone into recession

What he favors is a more generous tax treatment to encourage business investment, which he says is currently where German economic performance is poor.

But there are many advocates of Germany's cautious approach to managing its government finances.

Professor Clemens Fuest is the director of one of the country's leading economic research agencies, the IFO institute in Munich. He argues that Germany is not facing a serious crisis – although there may be a technical recession towards two consecutive quarters of declining economic activity.

Germany has full employment and currently needs no further stimulus, he argues. However, there would be a case to allow the government to increase its lending if there was a steeper decline in economic activity.

He agrees that the country could benefit from infrastructure improvements, but is still in better shape than in many other European countries. The problem is not so much a lack of money for projects, he says, but delays in implementation due to objections raised by German residents.

He argues that the debt brake was an appropriate response in 2009, at the time of the global financial crisis, when government debt was higher than GDP and remains a useful constraint.

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