New habits take time to establish themselves. The recent willingness to spend shown by Germany and its concentration in domestic consumption is a product of the coronavirus. The next task of Finance Minister Olaf Scholz is to ensure that both survive the pandemic.
Calculations by the International Monetary Fund show that, according to comparable indicators, Scholz’s fiscal response to the crisis – 9.4% of GDP, excluding loans and guarantees – is much greater than that of the United Kingdom (6.2%) and France (2.7%). Abandoning the long habit of balancing budgets will pay off: the economy will contract 7.8% this year, according to IMF forecasts, compared to expected contractions of 10.2% for the UK and 12.5% for France.
Scholz is giving families 300 euros per child, has cut sales taxes from 19% to 16% and doubled subsidies for the purchase of electric vehicles. By boosting demand, it is removing the curse from the German export model, which trade tensions were already calling into question. And the momentum is even greater now that the coronavirus is going to profoundly depress world trade (between 13% and 32% this year according to World Trade Organization forecasts).
But it will take more to move away from exports, which in 2018 accounted for almost half of GDP, compared to less than a third in the United Kingdom and France. Unions and successive governments have prioritized employment over wage increases. As a consequence, Germans with lower incomes, 30% of the population, did not enjoy increases in disposable income in real terms between 2000 and 2016, according to the IMF. Germany must increase its spending capacity if it wants to depend less on the sale of products abroad.
Tax breaks could help. According to the Organization for Economic Cooperation and Development, the average German worker takes home 61% of his gross salary, after deducting taxes and social security, compared to the average of 74% in OECD countries. Given that German debt stood at just 60% of GDP in 2019, Scholz has room for manoeuvre. It could also give more money to municipalities, to invest in streets and schools.
Admittedly, Scholz’s Social Democratic Party, which rules as a minority partner with Chancellor Angela Merkel’s Christian Democratic Union, could lose control of the Finance Ministry to a more fiscally conservative party in elections to be held next year. Still, Scholz’s generous spending has increased his popularity and made him the favourite candidate to lead his party. That would be a good platform to connect the new German economic model.