Germany has a problem. It has been identified as export dependency and therefore overexposure to world market conditions. This is a faulty diagnosis. Germany’s problems reside elsewhere. South Africans should have no problem identifying with the German dilemmas.

German GDP should fall this year by -6 to -7 percent compared to less than -3 percent in the US and -1 to -1.5 percent for South Africa.

Why so surprised (about the big German decline and the relatively modest US decline)?

US GDP may have been declining at a pace of -6.3 percent in 4Q2008 and a revised -5.5 percent quarterly annualized in 1Q2009, but 2Q2009 will already register a much slower rate of decline (probably -2 percent), and 3Q2009 and 4Q2009 should be positive.

Add up the resulting levels of GDP per quarter to an annual grand total, and compare this to the 2008 total, and US GDP may fall this year by less than -3 percent.

Industrial implosion

That is quite a discrepancy with Germany, which will be doing -7 percent. Yet the US was at the epicenter of the bank crisis and started the industrial implosion. Germany wasn’t, indeed was well behaved throughout. Yet Germany’s GDP will contract by more than double the US this year.

How could this be true?

For one, America knows how to prime the pumps. Interest rates have been lowered to zero. Fed balance sheet has been tripled in size (at least for a while). And the fiscal budget deficit is topping a wartime-like 12 percent of GDP, probably for two years running.

If that is not stepping on the gas, what could ever be?

In contrast, the ECB has lowered its rates to one percent (not bad going, though a little late), has increased its balance sheet size (but not quite as aggressively), hasn’t stress-tested its banks, but it has only last week provided 1121 banks with €450bn ($620bn) of one-year money at one percent.

The German government patiently explains that its fiscal stabilizers automatically add five percent of GDP to its budget deficit as unemployment support rises, but this outlay really pales in comparison with America’s (and the UK).

Anyway, this whole thing isn’t in the first instance about who has the bigger support going. Though it helps.

The real thing is structural, firstly, and hidden really, secondly and most importantly.

The structural thing asks about composition. Germany exports 47 percent of its GDP (heavily concentrated in capital goods and consumer durables, mostly all of it technically highly sophisticated goods). It imports just over 40 percent of GDP (mostly commodities, basic goods and services), thus running an impressive current account surplus.

German technical edge

Nothing wrong with that if you can get the German technical edge and acquire its dominance in its world export markets.

Of course, when the world goes walkabout, as it did last year and this year, Germany’s main industrial markets suffer cardiac arrest, demand falls by 20-30 percent as the global capex and durable goods decisions are postponed on a massive scale.

The German strategy to handle this is to typically grin and bear it while handing out subsidies for the duration, softening the blow for affected households and thereby assisting companies to keep their idling labour forces in tact, ready and waiting for the next upturn.

This way, there is no major disturbance of the fiscal and monetary space (only a modest one, relatively speaking) and one rides on the global coattails back to prosperity and resumes potential growth ere long without giving up any national strengths/specialization and also without incurring too many macro distortions.

There is the minor matter of Germany losing 12-14 percent of national income relative to potential GDP, spread out over the period 2008-2015, but that is just one of these things. Chancellor Merkel expects to be rewarded in September by a substantially large political majority, effectively burying the SPD opposition.

Funny, what some electorates are prepared to reward.

Export dependency

Meanwhile, German politicians have started to make noises about not liking their export dependency as this makes them overexposed to global crises. That may first and foremost be an attempt to look active, as observed by the local electorate (politicians seen to be doing the right things) but also to a worldwide audience (Germany may just try to be a better global citizen by actively pushing its economy and supporting global revival rather than mostly remaining a free rider outside of its 5% of GDP fiscal support).

Even so, aside of some minor income tax relief next year promised ahead of this year’s elections, German politicians give no impression of wanting to provide additional spending stimulus or encouragement to their economy. For they fear distorting and burdening macro demand and national finances too much, and creating the wrong incentives and a new set of the wrong dependencies, what they see as Anglo-Saxon weaknesses that they are determined to give a serious miss.

This is not altogether the wrong instinct. For the real answer should focus on the German supply side, not exclusively its demand side.

Germany should preferably take micro-policy action to make its economy more flexible, providing greater reward to entrepreneurial activity, thereby making its industrial and services sectors more flexible, agile and dynamic, more inclined to invest, innovate and even employ more people.

In a word, making it more American.

Anglo-Saxon answer

The Anglo-Saxon answer to greater economic encouragement doesn’t only lie on the demand side. Their supply side realities (at least in some of them) are also something to focus on, and possibly copy.

And if the Anglo-Saxons fall down on some of these aspects (think education, but also regulations), go wider afield. What do Finland, Singapore and other similar success stories have to offer (aside of more sector concentration, which is to be avoided)?

So having collided with a banking bus, and having its industrial activities and exports badly mauled, the first order of global business is banking repair, the second one is maintaining effective demand (with or without free riders in attendance) and thirdly there should be redoubled attention to strengthening supply side measures in order to get output responding without unnecessarily incurring further spending distortions and greater financial burdens bedeviling local politics and future social choices (important in democracies).

Of course, it is a lot easier simply to print a few trillion more in money, or order budget deficits by the trillion (provided you have the votes to do so) as compared to doing the infinitely more difficult things such as improving education results, reducing regulatory burdens, calling bureaucracies to account while putting them on a forced slimming diet and more such good things.

Easy going politicians rather go the extra spending mile than do something so difficult.

For which reason outperformance is so very scarce, also in difficult global times like today.

As for South Africa, like America we have today a very small industrial and export core, relatively speaking. It may remain important to our future growth development, but composition-wise its relative smallness has assisted in this global crisis to keep the external hit limited to a minor GDP decline.

We, too, have succeeded so far in limiting our monetary support (450 points of nominal interest rate easing, with apparently no intention of lowering real interest rates over the policy horizon). Expanding the fiscal budget deficit to some 6% of GDP is also impressive, but far from really aggressive worthy of a global crisis (other people on this score seen as carrying a far greater responsibility).

Missing in action

Still, missing in action is a greater urgency to address supply side constraints on economic growth. This isn’t a new topic, as hitherto this was considered a strategic long-term issue.

But why waste a crisis? It is at times like these that modernization and reform should be more easily undertaken. Except of course it isn’t our crisis, we are mere bystanders, and like the Germans and others if we wait long enough the global economy will come back.

On that rising global tide, all regional boats will lift, including the rotten hulks.

Despite much policy initiative aired of late, it is the ultimate delivery that should count. And here we remain an economy aspiring and capable of 3.5 percent growth in the long term. Changing such DNA will take more than a global crisis, it seems, and also more than merely good ideas.

Cees Bruggemans is chief economist of First National Bank.
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