Chancellor Angela Merkel met Spanish prime minister Pedro Sánchez in Andalusia, Spain, August 11, 2018
This week the Ifo Institute for Economic Research at the Ludwig Maximilian University in Munich, published an estimate for Germany's current account surplus in 2018 while Ifo economists separately reported on research which shows that countries with high current account surpluses like Germany are not responsible for unemployment in other countries. Earlier this year, work by Prognos AG, a Swiss consultancy, estimated that German demand — dominated by intermediate inputs for industrial sector — sustain almost 5m jobs in the European Union (EU).
The German current account* is expected to fall to 7.8% of annual economic output this year following a 7.9% rate in 2017.
Ifo says that the EU considers a maximum of six percent as sustainable in the long term but Germany will have the world's largest current account surplus again in 2018. With an expected $299bn (€264bn), the German value is ahead of that for Japan, which in the current year is expected to show a surplus of approximately $200bn (4.0% of its gross domestic product or annual economic output). In third place will be the Netherlands with around $110bn (12.0% of GDP). By contrast, the US is again likely to be the country with the largest current account deficit at just under $420bn dollars, which, however, is only 2.2% of GDP.
This year China will slip from the top three countries with the highest surpluses due to very strong imports and weaker exports. Its goods surplus was significantly lower in the first half of 2018, with less being exported to the US and Europe. In addition, revenues from foreign assets were smaller compared to the first half of 2017.
The EU current account surplus was €222bn in 2017 corresponding to 1.4 % of GDP. Thirteen of 19 Euro area countries reported a surplus and the zone overall achieved an overall ratio of 3.5% of GDP.
The EU current account surplus was €170bn with the United States and a deficit of €113bn with China in 2017.
However, there is a huge discrepancy here: US data show that it had a $14bn surplus with the EU! See here.
Current account surpluses and jobs in other countries
Countries such as Germany with large current account surpluses are not the cause of unemployment in other countries, as determined by recent research by the ifo Institute.
“A frequent allegation is that a current account surplus leads to over-employment domestically and to corresponding under-employment abroad. There is a lack of conclusive theoretical as well as empirical evidence that an increase in the current account surplus or net exports is linked to a general decline in the unemployment rate of the country concerned. We have not found that the data justify such an assertion. On the contrary, it looks as if a country’s growing current account surpluses are more likely to be accompanied by rising unemployment,” says Gabriel Felbermayr, director of the Ifo Center for International Economics. “This especially applies to industrialised countries.”
The study (in German) looked at different groups of countries over different time periods. “The conclusion that countries with high surpluses achieve gains in the labour market at the expense of deficit countries is not confirmed by the data. A negative connection is, in any case, not apparent once the special features of the countries are taken into consideration; this indicates that a current account surplus and the unemployment rate are caused by other factors,” added Martin Braml, co-author of the study.
“But our results do not suggest that constant current account imbalances do not cause problems. There are some indications that large surpluses or deficits can lead to crises due to the concomitant indebtedness. These well-known findings have also prompted the International Monetary Fund and the EU Commission to take measures to address macroeconomic imbalances. But in any case, effects on the labour market are not a suitable justification for demonising current account surpluses,” Felbermayr added.
German demand and EU jobs
The study, 'Importance of the German Economy for Europe', was commissioned by Vereinigung der Bayerischen Wirtschaft (the Bavarian Industry Association) and it says that "Throughout the EU, German import demand secures a total of almost 4.9m jobs. A very important factor in this context is the German industry’s demand for intermediate and capital goods. More than 3.4m people in the partner countries work on their production.
The demand for imports on the part of German industry is especially advantageous for the economies of Central European countries, as well as Germany’s smaller Western European neighbours. The – usually Southern European – countries with weaker economic growth in recent years benefit less for two reasons: firstly, the geographical distance to Germany has a negative effect, and secondly, the industrial basis is not strong in these countries, which means that they can only manufacture the goods required by the German industry’s production processes to a limited degree.
A scenario calculation confirms the importance of German industry for the European partner countries. If the German gross domestic product were to stagnate by 2020, the economic output of the other EU countries would decrease by a total of €13bn compared to the baseline scenario, in which the German economy would expand by an annual average of 1.6% from 2018 to 2020."
For almost all EU member states, Germany is the most important or second most important export market, according to Prognos
The German government says that German investors are among the biggest foreign employers in the US. German investors hold direct investments in over 5,300 companies in the US that generate a total annual turnover of $466bn and employ approximately 674,000 people, mostly in the automotive, machinery and the chemical industries. German affiliates in the US pay above-average salaries and contribute substantially to training skilled workers in the US.
Perils of high surpluses
There are 300,000 exporters in Germany and only 125,000 in France.
Germany's export value to GDP rose from 22% in 1995 to 47% in 2017. France's ratios were 23% and 31%.
Net foreign assets in 2017 were valued at 55% of German GDP.
According to the KfW development bank "On average over the 1970s and 1980s, before unification, a current account surplus of 1.5% of GDP was common in Germany.
Today Germany’s enormous foreign assets offer many opportunities for returns but also harbour substantial risks from exchange-rate induced devaluations to total losses – at least in individual cases.
After the financial crisis, the German taxpayer covered a portion of such total losses incurred from, for example, investments in sub-prime papers for the benefit of German savers. From a current account balance perspective, that is like a gift to the USA. In retrospect, the delivery of goods such as the much-quoted German cars to the USA was made without compensation."
This week's edition of The Economist notes:
"Current-account imbalances are not always a cause for concern. As a matter of arithmetic, they measure the gap between domestic savings and investment. The euro area is an economy with an ageing population: it should save more than it invests. As a result, it should have a current-account surplus. America’s deficit partly reflects the more attractive investment opportunities available there than elsewhere in the world. Imbalances become more worrying, however, if they are larger than economic fundamentals might suggest or financed by short-term inflows."
James McCormack of Fitch Ratings says that German net portfolio investment 2017 outflows of €206bn (about 6% of GDP) reflect the extraordinarily low interest rates in the Euro area, "Even if Germany did ease its fiscal policy, German investors would still be inclined to place funds abroad, so long as domestic interest rates remain exceptionally low, the ECB remains a willing buyer of high-priced securities, and yields are more attractive elsewhere.
When the ECB begins to alter course and international financial flows respond, there will be adjustments in the European and German balance of payments, and today’s large current account surpluses will contract without German fiscal stimulus. Economists will no doubt point to current account positions to explain what is happening. But the determining factors will lie elsewhere, in what could be dramatic changes to financial flows."
In 2016, the investment-to-GDP ratio was 22% in France, while it was only 20% in Germany. Both the French public and corporate sectors had higher investment ratios than their German counterparts (+1.3 pp and +1.0 pp, respectively).
Olaf Scholz, the new German finance minister and vice-chancellor, is a Social Democrat, and he told The Economist in June, “We have some investment headroom and we are willing to use it,” suggesting that infrastructure, science and defence will be his priorities. The Economist says that on Europe he offers full-throated support for President Macron’s notion of “European sovereignty,” a call for common action to improve the resilience of the European social model. More solidarity in the Euro area is needed, he says: “I really underline Macron’s idea that there is no time to waste.”
In May the European Commission in a report said "Public investment is picking up, but as a proportion of GDP the increase is still modest, and a significant backlog at municipal level, estimated at 4% of GDP, remains....Public expenditure on education remained at 4.2 % of GDP in 2016, below the EU average of 4.7 %. Spending on education and research remained at 9.0 % of GDP in 2016, falling short of the national target of 10 %. This corresponds to an estimated investment gap of about €33bn....Digitalisation of the German economy is progressing slowly and the country faces considerable challenges. There is an obvious urban-rural digital divide with regard to fast internet (next-generation access up to 30 Mbit) coverage (only 54 % in rural areas).
Germany is lagging behind on very-high-capacity broadband (> 100 Mbit) deployment. Only a small proportion of Germany’s territory (7.3 %) is covered by high-performance fibre-based access networks, as compared with an EU average of 26.8 %. Instead, upgrading existing copper cable networks (vectoring) continued to be the dominating incumbent’s preferred technological solution. Many services rely on very–high-speed connectivity and in 2017 25.3% of German enterprises found their internet connections too slow for their actual business needs. A lack of such connectivity holds back investment, especially by small and medium-sized businesses, many of which are located in rural and semi-rural areas. Performance in digital public services and in e-health is also far below the EU average.
Business research and development investment is growing and Germany is close to achieving its Europe 2020 research and development intensity target. However, investment is increasingly concentrated in large firms and in medium/high-tech manufacturing, while the contribution of small and medium-sized enterprises is declining."
The Commission also criticised the German tax system. Personal income and profits are highly taxed, while levies on inheritance, consumption, and property are light. It should be the other way around, the Commission said, noting the effective corporate tax rate of 28.2%, with a commercial tax and the so-called solidarity tax on top of it, hems in corporations with bureaucracy and stifles investment.
According to the Handelsblatt newspaper, "the critique about Germany’s lagging in broadband performance can be laid at the feet of Deutsche Telekom. The longtime monopoly provider chose to augment its existing copper wire network rather than invest in the more robust optic fibre"
*The current account is part of a country's Balance of Payments, which tracks the balances on goods and services trade plus payments to foreign holders of a country's investments and payments received from investments overseas coupled with transfers such as remittances.