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Ifo Economic Forecast 2007:
Propelling Economic Forces Remain Strong
Press version
Embargoed until:
Thursday, 14 December 2006, 10.30 hrs CET
Munich, 14 December 2006
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Ifo Economic Forecast 2007: Propelling Economic Forces Remain Strong
The world economy again expanded at an above-average pace this year – at a growth
rate of 5%. On the one hand, this was because the trend growth rate of world output is
now 4%, one percentage point higher than at the beginning of the 1990s. This is
primarily the result of the integration into the world economy of the rapidly growing
newly industrialised countries such as China, India, Russia and the Eastern European
states. On the other hand, in 2006 the world economy is in the third year of a global
economic upswing in which it is expanding at a clearly faster pace than the trend growth
rate.
The expansion of the world economy will remain buoyant during the forecasting period
with some temporary weakening. Monetary policies will be neutral to slightly
expansive. A convergence in growth in individual regions will occur. In the United
States, GDP will initially slow – slightly below the trend growth rate – but will then
speed up again. Consumption will remain robust despite the lull in the real estate
market. Investments, after a temporary flattening, will be increasingly expansive. The
rise of production in Japan will continue robustly albeit at a somewhat more restrained
pace. In China, GDP will expand at an accelerated rate, and in the other countries of
eastern Asia, as in Latin America, the economic expansion will remain solid but also
with some slowing down. In the newly industrialised countries, economic growth will
continue to be buoyant, and in the euro area GDP will increase noticeably. Consumption
will be lively due to the improved situation on the labour market. Investments will
remain perceptibly expansive despite some slowing.
As 2006 comes to an end, the German economy is experiencing a strong economic
expansion that began at the beginning of 2005. The driving force of the boom continues
to be foreign demand, which has expanded robustly as a result of the buoyant world
economy, despite this year’s strong revaluation of the euro vis-à-vis the US dollar.
Export growth in 2006 is likely to be around 10.5%, the largest increase since 2000. But
unlike 2005, domestic economic activity is now also buoyant. Investments in buildings
and equipment have expanded robustly in the current year. Private consumption, which
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at a share of 59% of nominal GDP is the most important component on the expenditure
side, expanded for this first time since 2001. All in all, total economic output in 2006
will grow by 2.5%, after 0.9% in the previous year. However, this year there were fewer
working days than last year. Adjusting for this calendar variation, growth in GDP will
amount to 2.7% this year. Germany’s budget deficit in 2006 will be €42 billion or 1.8%
of GDP. For this first time since 2001, Germany is below the budget deficit ceiling of
3% of GDP as stipulated in the Maastricht Treaty.
A turnaround on the labour market has also occurred. The number of the seasonal- and
calendar-adjusted hours worked increased strongly in the second and third quarters of
2006. In the wake of increasing capacity utilisation, about 350,000 additional jobs
(seasonally adjusted) have been created since the beginning of the year. The number of
employees subject to social insurance contributions has risen, seasonally adjusted, since
the turning point in February by around 320,000 up to September. The upswing has also
led to a clear drop in unemployment. On average for 2006, the number of unemployed
persons has fallen by a good 360,000.
In the coming year, economic activity will be considerably dampened initially by the
massive increase in taxes and fiscal charges, but a continuation of the upswing will then
follow. After a “classical” downturn in the first years of this decade, which was
accompanied by a decline in the trend growth rate, the lower turning point was reached
in the winter half year 2004/05 both for aggregate economic output as well as for
spending on plant and equipment. Since then the German economy has been
experiencing an economic upswing, which intensified at the beginning of this year. For
this reason, the endogenous propelling forces, which will continue to be accompanied
by growing exports, will be strong enough in 2007 to prevent the upswing from coming
to a halt.
For this reason, the growth in investments in plant and equipment and in commercial
construction will remain quite robust in 2007. Also the total number of hours worked
will continue to rise. In addition, the negative effect of the increase in VAT on
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consumption will not be so great that there will be an absolute decline in consumer
spending over the year as a whole. In light of high government deficits, many had long
expected an increase in taxes, which contributed to the weakness in consumption and
the rise in the savings rate in recent years. Private consumption is expected to grow
slightly by 0.5% despite the increase in VAT and other measures for improving
government revenue. All in all, real GDP will expand by 1.9% in 2007, or, after
calendar adjustments, by 2.0%. The situation on the labour market will continue to
improve. In the course of 2007, a decrease in unemployment of 200,000 is expected,
which corresponds to a decline of average annual unemployment of 380,000. At 2.3%
the inflation rate will be clearly higher than this year (+1.7%). The government deficit
will decrease by a further €30 billion, corresponding to 1.3% of GDP.
In 2008 overall capacity utilisation will continue to increase, although the expansive
forces will become somewhat weaker during the year. Real GDP will increase by 2.3%,
or by 2% after calendar adjustments. After the effect of the VAT increase has run its
course, an inflation rate of around 1½% is expected. Unemployment should fall over the
course of the year by around 100,000, which, on average for the year, means 150,000
fewer unemployed persons The financial position of the state will continue to ease. A
rise in real GDP of a good 2% would, on its own, lead to a reduction of the budget
deficit of around 0.5 percentage points. However, it must be taken into account that
major reform measures are meant to take effect in 2008, namely corporation tax reform
and health care reform, whose actual design and financial effects cannot yet be
estimated. In addition, there will be perceptible increases in wages for public service
employees. Therefore, the general government financial balance will only improve by
around 0.2 percentage points to -1.1% of GDP.
Wage increases in recent years have been very low both in an historical and in an
international comparison. This applies both to collectively bargained as well as to actual
wages. In the coming negotiating rounds, the unions should not take the increase in
VAT as a reason for demanding higher collective wage increases. The portion of
inflation attributable to this increase will be claimed by the state and is not there to be
distributed. The increase in VAT and the net relief for employers’ social insurance
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contributions will increase the rate of inflation next year by about one percentage point,
assuming a complete passing on of the increase. Since employee’s contributions will
also decline, the net wage will increase by only around 0.8%. In the total sum,
employees will lose only little wage income (about 0.2%), calculated in real terms and
net, from the two fiscal policy measures (VAT increase and the lowering of non-wage
labour costs); those employees subject to social insurance contributions will lose
practically nothing. However, this calculation does not take account of the cuts in the
general commuter travel allowance and the discontinuation of the own-home subsidy,
etc., as well as a real lowering of non-wage income.
Ifo Economic Forecast 14 Dec 2006
Federal Republic of Germany
Key Forecast Figures
2004
2005
Percentage change over previous year
2006
2007
2008
(1)
(1)
(1)
a)
Private consumption
Government consumption
Gross fixed capital formation
Machinery and equipment,
Buildings
Other investment
Domestic demand
Exports of goods and services
Imports of goods and services
Gross domestic product (GDP)
0,1
-1,3
-0,4
4,2
-3,8
1,2
0,0
9,6
6,9
1,2
0,1
0,6
0,8
6,1
-3,6
4,7
0,5
6,9
6,5
0,9
1,1
1,1
5,0
7,7
2,9
4,8
1,9
11,2
11,0
2,5
0,5
0,6
3,8
6,8
1,3
4,2
1,5
7,1
6,9
1,9
1,5
0,9
4,6
8,0
1,9
4,0
1,9
7,8
7,9
2,3
Employmentb) (1.000 persons)
Unemployment (1.000 persons)
38875
4381
38823
4861
39054
4498
39375
4118
39565
3968
10,1
11,2
10,3
9,5
9,1
1,6
2,0
1,7
2,3
1,5
-82,5
-72,6
-41,6
-30,2
-26,3
-3,7
-3,2
-1,8
-1,3
-1,1
1,9
1,4
2,7
2,2
2,4
2,1
2,2
2,2
2,1
1,8
Unemployment ratec) (in %)
d)
Consumer prices
(% change on the previous year)
e)
General government financial balance
- EUR billion
- in % of GDP
memo item:
Real GDP in the EMU
(% change on the previous year)
Consumer prices in the EMU
(% change on the previous year)
f)
1) Forecast by the Ifo Institute.- a) Price adjusted.- b) Domestic employment.c) Unemployment as a % of labour force (employed and unemployed).- d) Consumer price index (2000=100).e) On national accounts definition (ESA 1995).-f) Harmonized index of consumer prices (2005=100).
Source: Eurostat, Federal Statistical Office, Federal Agency of Labour, forecast by the Ifo Institute.