Germany’s new coronavirus stimulus package is wide of the mark, taking little account of the impact on investment, unemployment and loss of export income.
Cross-posted from Makroskop and Brave New Europe
Translated by BRAVE NEW EUROPE
The economic stimulus package is hailed by most of the media as a big bang. This is a mistake. Compared with its grandiose aims, the package is pretty small-minded. The dimension of the crisis continues to be underestimated; even now, professional forecasters are still far off the mark.
From the very beginning of the Corona crisis we have pointed out (see the 24 March article) that this shock caused by governments should not be compared to a recession or a normal economic downturn. This shock is much greater and more comprehensive than anything we have seen so far. If we look only at German industry, we may still draw comparisons with the major global recession of 2008/2009 (Figure 1). Although demand measured in terms of new orders has fallen at a much faster pace than at that time, the dimensions of the crises are still similar. Overall, new orders (orange line) have fallen to a level just below that of that time.
Figure 1 Incoming orders in manufacturing
Inland = domestic, Ausland = foreign, Insgesamt = combined
However, this only applies to the industry average. For the automotive industry, for example, the current shock is much greater (Figure 2). Production here fell by more than 70 percent in April compared with March of this year, to a level well below the lowest level of 2008/2009. The German showpiece industry of the past ten years is in an existential crisis because neither at home nor abroad is the purchase of a new car currently on the agenda in view of consumer uncertainty.
Figure 2 Production and orders in the German automotive industry
The fact that total German exports in April also plummeted by almost 25 percent compared with the first quarter is probably due in large part to the fundamental weakness in demand for automobiles. But the machinery industries are also experiencing a historical slump; since the beginning of the year demand has fallen by a third.
The labor market is the best indicator
But that is by far not all. In contrast to the financial crisis of 2008/2009, this time far more branches of the entire economy are affected because the shutdown has also largely shut down areas that, like hotels and restaurants, normally hardly notice economic setbacks. Even the construction industry, which had never been directly affected by the restrictive precautionary measures in Germany and had been doing well until March, recorded a significant drop in demand in April, which will also be reflected in a decline in construction output in the coming months.
The true extent of the crisis can only be seen in the labour market. The latest data from the Federal Employment Agency (BA) on short-time working shows the dramatic economic slump since the start of measures to combat the corona pandemic. The number of companies that have registered short-time working and whose applications have been reviewed by the BA has assumed an order of magnitude since March that has nothing in common with the 2008/2009 financial crisis (see the blue line in Figure 3):
Figure 3 Statistics for companies on short-time work
Betriebe mit realisierter Kurzarbeit = Companies on actual short-time work Betriebe mit angezeigte und geprüfter Kurzarbeit = Companies with advertised and registered short-time work
After a dramatic 625,000 in April, it is still far more than double the highest figure in 2009 (just under 25,000 at that time) at just under 67,000 in May. The currently reported figure for May is likely to be corrected upwards again, as were the figures for March and April. The figure now reported for April, for example, is 37,462 higher than the preliminary figure at the end of April. The BA writes the following in the imprint of the relevant statistics: “It is possible that in times of increased volume, notifications of short-time work to a greater extent are available at the responsible employment agency, but have not yet been recorded electronically in the BA’s registration process, and that this recording is only made after a time lag.” At present, the notifications in the BA’s registration process are probably under-recorded to a not inconsiderable extent.
The BA has resumed its extrapolation, which had been discontinued in the meantime, according to an extended process, whereby it determines the number of companies that actually have short-time working from the number of reported and checked notifications. This extrapolation is for orientation purposes during the five-month period in which the settlement of short-time working compensation is not yet complete after registration and the data on short-time working implemented is therefore not yet final.
For March, the last month for which an extrapolation is now available, the extrapolated number (just under 220,000 establishments) differs by a third from the number of reporting and inspected establishments (just under 164,000). This suggests that the April extrapolation of the number of companies reporting short-time working to the number of companies implementing short-time working will be worse. After all, the number of companies reporting short-time working almost quadrupled from March to April. However, the sharp decline in the number of ads in May indicates that the situation for new ads is easing.
What is the current situation with regard to the number of people on short-time work? The traffic jam that had resulted from the unusually high number of advertisements in March and April had caused the BA to estimate the number of people reported in the advertisements for March and April at 10.1 million people (cf. the BA press release of 30 April). In the meantime, the examination of the applications has progressed and for both months together a good 10.6 million persons have come out (2.6 million in March and 8.0 million in April). In May, the number of (newly) notified short-time workers is provisionally estimated at 1.06 million persons (cf. Figure 4).
Figure 4 Statistics for short-time workers
Anzahl Kurzarbeiter = Number of short-time workers Personen in Anzeigen = People in advertisements
From the 2.6 million or so people reported as being on short-time working for March, the BA has extrapolated an actual number of short-time workers of 2.0 million. That is 77 percent. Applying the same rate to the persons reported in April alone would result in a number of short-time workers of a good 6 million. Together with the number in March, which is unlikely to have melted away by April, this brings the total number of short-time workers to an estimate of 8 million.
The ifo Institute estimates the number of people actually sent on short-time work in May at 7.3 million. If one assumes that the situation will improve in June because of the relaxation of the corona measures, an optimistic sample calculation can assume that the number of short-time workers for June will be half the May figure, i.e. 3.65 million. This would then result in an average of about 6.3 million short-time workers for the second quarter.
Even if the number of short-time workers for June were assumed to be zero, this would still result in more than 5 million short-time workers on average in the second quarter. Of the 2.4 million that the joint diagnosis of the economic research institutes was based on, even under this extremely positive, not to say unrealistic, assumption, we are still miles away. Of course, it is still completely open how many hours less work is or was actually done, and what the full-time equivalent of the lost work is compared to this roughly estimated number of people.
Nevertheless, it is obvious that the dimension of the economic slump behind these figures far outstrips the financial crisis. The Joint Economic Forecast had expected a decline in the second quarter of almost ten percent compared with the first quarter. If this was consistent with the estimated number of short-time workers, a realistic view of short-time work would have to assume that the decline would be at least twice as large.
Against this backdrop, GDP for the whole of 2020 will shrink far more than the forecasts, which are still being used, would have us believe. The German Council of Economic Experts has gone for a decline of 6.5 per cent, after it still stood at 2.8 per cent in its special report in March (in the most probable scenario) and even in its most pessimistic scenario remained above the figure considered probable today.
It is enormously important to have a reasonably realistic picture of the current situation and the immediately expected future situation in order to be able to advise policymakers sensibly on the nature and extent of support measures. Professional forecasters have not yet succeeded in doing this. This is one of the reasons why policy has always been “behind the curve” instead of taking a bold step forward.
The political consequences of underestimation
In the meantime, the Federal Government has presented an “economic stimulus package”, the size of which (130 billion euros) is generally considered significant and sufficient. However, there is a danger that the pattern of politicians cobbling after events while continuing to underestimate the economic slump will be repeated. The governing coalition has adopted a large number of measures, and it is by no means clear how and when they will take effect. The only big success is the reduction of VAT by three points for six months.
But even this measure is quantitatively unimpressive when one considers the size of the demand gap from the side of the private households. If the average household savings rate rises by one percentage point from 11% to 12% (in Q1 2020 the rate rose to 12.4% compared with 11.1% in Q4 2019), around EUR 10 billion less will be consumed per half-year (total disposable income of private households in 2019 will be EUR 2400 billion, half of which will be EUR 1200 billion for a half-year, with one percentage point more saving EUR 12 billion).
The income losses due to short-time work and unemployment will amount to approximately EUR 5 billion in Q2 2020 (taking into account the short-time work allowance). Net wages and salaries per employee in 2019 were 24,951 euros. Assuming that those affected by short-time work and unemployment tend to earn less (only EUR 20,000 net wage per year) and that only 50% of them work (loss of working hours due to short-time work), these households will lose around EUR 2,500 before receiving a short-time allowance. If about 70% of the losses are compensated by the short-time work allowance (60% for employees without children, 67% for employees with children; but partial topping up by collective agreements), there remains a loss of income per person affected of an estimated 750 Euros in the three months of the 2nd quarter.
With 6.5 million people affected (short-time workers in Q2 + 0.5 million more unemployed), this results in a loss of income in Q2 of almost 5 billion euros. If one assumes optimistically that the income losses due to short-time work and unemployment in the third and fourth quarters will be half of those of the second quarter (partly because the shutdown measures were lifted, partly because the short-time work allowance was increased to 80 to 87%), this adds up to another EUR 5 billion in income losses. Together, this results in about EUR 10 billion less disposable income and EUR 10 billion due to additional savings.
The government estimates the relief for private households in terms of VAT at EUR 20 billion if the VAT cut is passed on in full. This means that the relief from VAT reduction would at best (namely under very optimistic assumptions) compensate for the decline in private consumption we estimate. In addition, it is to be expected that a positive effect in the last six months of this year will already lead to renewed uncertainty in the first half of 2021 because of a decline in consumption (after the anticipatory effects for 2020 owing to the return of VAT to the old rate from 2021).
The decline in investment demand is clearly having a negative impact on the development of the economy. It is unlikely that this will be offset by the measures announced, as corporate capacity utilisation is catastrophically low. In addition, as already noted at the beginning, demand from abroad, which is extremely important for Germany, is collapsing massively without any possibility of relief in sight. The currently reported 80 percent decline in the foreign trade balance in April compared with the same month last year cannot be noticeably mitigated even by the depleted number of Germans holidaying abroad. The current account balance in April was down by almost two thirds year-on-year.
The enormously high surplus demand from abroad, which Germans have “needed” for years to sell their production – in 2019 it was a good 7 per cent of gross domestic product – in order to keep their wage dumping model afloat, is particularly noticeable in the corona crisis. The structural distortion of German production structures in the direction of exports cannot be corrected in the short term without some pain. Workers in the relevant sectors, such as the automotive industry, will have to pay the price for this with the loss of their jobs or wage cuts. The short-time working allowance is probably only the beginning.
And this phenomenon is again quite similar to the financial crisis: for years, wage dumping has been used to build and promote a structure that is untenable in the long term. In the short and medium term, employees are deprived of their legitimate share of the productivity gains in wages. The resulting profits from foreign trade surpluses are lost by employers and shareholders. If this model collapses, the state will have to step in first with short-time work benefits, then with unemployment benefits and finally with basic social security. This is not only unfair, but above all it could have been avoided if the government had dealt with the downside of being the world champion in export surpluses early and without prejudice.
Overall, the so-called economic stimulus package will have many effects, but most of them come too late or are unsuitable to revive the economy at present. Effects that are not expected for three years can be safely ignored today when it comes to stabilising expectations. Even relief measures that prevent possible additional burdens, such as the transfer of part of the energy levy to the state budget, have no direct positive effect on economic development.
It would have been courageous of the government if it had decided, for example, to permanently reduce VAT, to raise the minimum wage significantly and to bring the Hartz IV unemployment benefit rates to a level twice as high as at present. Furthermore, in view of the danger of dramatically rising unemployment, which this time really cannot be attributed to “misconduct” on the part of the workers, support through unemployment benefits should have been regulated much more generously by raising the rates and extending the period of entitlement.