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Should Germany spend more to revive its economy?

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

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

That further stimulated debate about whether Berlin should open a financial tap and spend more.

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

Should the government discard the budget balancing policy, known as "black zero" and legal restrictions on loans called "debt brakes"?

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

  • Germany is in control of facing the threat of recession
  • The German economy is slipping back into negative growth

The eurozone as a whole may not be in a recession, but inevitably the decline in Germany is affecting its neighbors.

The question is what should be done by policy makers – especially the German government and the European Central Bank (ECB) about this situation.

The ECB has taken steps. This has cut interest rates to a very low level (to be below zero for one of the interest rates) and will restart a policy known as quantitative easing, 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 how effective this action will be. Many economists believe that monetary policy – what the central bank does – has done as much as can be done in the euro zone.

Many argue that the government must do more. Current ECB President Mario Draghi and his successor Christine Lagarde, who took over this week, both take that view.

In September, Ms. Lagarde told the European Parliament: "Some countries in the euro area can use a portion of their fiscal space [government spending and taxation] to improve broadband infrastructure and regulate public spending that will help fight recession. "

He did not name countries that could take such action, but he said that now applies to most of them. The clearest example is Germany which has had a surplus in its public finances – with tax revenues higher than spending – since 2012.

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The IMF chief economist, Gita Gopinath, is explicit at this point in the foreword to the recent IMF World Economic Outlook.

"Countries like Germany must take advantage of negative loan interest rates to invest in social capital and infrastructure," he wrote.

Its reference to negative lending rates refers to the fact that Germany, and a number of other countries, can borrow at an interest rate of less than zero. As a result, the financial markets pay them to borrow.

Prof. Peter Bofinger of the University of Würzburg, and a former member of the German economics council, agreed with Ms. Gopinath that the country must take advantage of these sub-zero borrowing costs to invest in infrastructure and social housing.

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Some say the German transportation system needs more investment

At present he said that investment in clean infrastructure – that is, after wear and tear on existing infrastructure is calculated – is below zero.

The idea that Germany has a problem in this area might be a little surprising. But Prof. Bofinger said he often saw the evidence himself. He described traveling by train in the country as "a real adventure – whether trains will arrive, how many minutes and hours they are delayed, do you get anything to eat on the train".

"Transportation is in very bad condition and that is a consequence of years of inadequate investment."

He said it was an "extraordinary mistake" to not use the opportunities presented by lending people who were favorable to addressing some of these problems.

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He believes the debt brake and zero black policy don't make sense. If every major government follows a zero black policy, "the world economy will end in a black hole," he said.

At present among the G20's leading economic groups only two others – Russia and South Korea – have a government budget with a surplus.

But Prof. Bofinger did not support the use of infrastructure programs in the short term as a stimulus for a sluggish economy. The construction industry is already working at full capacity.

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Some believe Germany has entered a recession

What he likes is more generous tax treatment to encourage business investment, which he said is currently where German economic performance is weak.

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

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

Germany has full employment and currently does not need further stimulus, he argues. However, there will be cases to enable the government to increase its loans if there is a sharp decline in economic activity.

He agreed that the country could benefit from infrastructure improvements but remained in better condition than in many other European countries. The problem is not the lack of money for the project, he said, but the delay in implementing it is often due to objections raised by the German population.

He believes the debt brake was the right response in 2009, around the time of the global financial crisis, when government debt was higher in relation to GDP and remained a useful restraint.

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