Germany’s fiscal muscles: better put them to use now
“If we fail to prepare, we prepare to fail,” according to NY Fed President Williams in a recent speech. Yet, in a world where some central banks are already close to the effective lower bound on monetary policy rates, perfect preparation is not synonymous with success anymore. Central bankers themselves are increasingly vocal about the fact that they are not omnipotent.
The ECB press conference last month delivered another moment where Draghi hinted on the limits of monetary policy. “Certainly we have to ask ourselves: are all these instruments going to be effective forever? I think that's a legitimate question to ask.”
With the German Bundesbank warning this week that Germany risks entering a recession in the second half of this year, the quest for further policy space is now in full motion. When it comes to Germany, there is one obvious candidate: fiscal policy. The chart of the week shows the German government has run comfortable budget surpluses in recent years. Perhaps too comfortable.
The long held German belief about maintaining this ‘Schwarze Null’ is being increasingly questioned. This time internally, as German finance minister Scholz said this week that Germany has the fiscal strength to respond to any future economic crisis with full force. In that eventuality, a fiscal package of 50 billion euros could be put to use in the German economy.
Government expenditures on infrastructure and a German-led ‘Green deal’ would certainly be a good way to fire up the stuttering German domestic growth engine, as slowing global trade volumes have hit its open economy and manufacturing base. So far, Germany is only flexing its fiscal muscles. Long held beliefs don’t vanish overnight and it seems German policymakers have not entered the capitulation phase, given the conditionality of only using fiscal space in a deep recession. That is worrisome.
Germany’s fiscal strength should be put to use now with recession risk looming large, not to battle the recession of yesterday. Economic history is full of irony, and the perceived safety of today’s ‘Schwarze Null’ may bring about tomorrow’s downturn.