skip navigation
Blog

Stay up to date on timely topics and market events. Subscribe to our Blog now.

ECONOMY
October 09, 2019

Germany’s Expansionary Fiscal Policy—Is Godot Just Around the Corner? (Part I)

By Andreas Billmeier, PhD

Stay up to date on timely topics and market events. Subscribe to our Blog now.

In a two-part blog post, we take a look at German fiscal policy—what is changing, what needs to change, and by when.

Godot might be close, but he is not around the corner quite yet. While there appears to be a bit of movement toward a more accommodative fiscal stance in Germany, for now it’s more intellectual than factual. Indeed, the Minister of Finance recently proposed another balanced budget in the Bundestag; apparently the so-called black zero—representing Germany’s commitment to balanced budgets—is very much alive and well. However, there are two potential narratives that could shift this to becoming more concrete and explicitly expansionary: the German economy would have to deteriorate markedly from here to trigger visible countercyclical stimulus, or we would have to see a structural change in investment budgets in line with shifting government spending priorities. That said, there is a good amount of de facto stimulus possible in the near term if the budget target were actually met rather than surpassed (on average over the last four years the general government has produced a 1.3% budget surplus), and if the government were to run down the rainy-day funds that accumulated over the last few years when the economy was doing exceedingly well.

On the cyclical side, recent data offer modest green shoots: the construction PMI has bounced slightly, vehicle production also seems to be rebounding from a low base and export orders are recovering. However, the latest service PMI reading was disappointing, foreshadowing a further worsening of soft data. While the German economy might not be able to avoid a technical recession, our baseline is for positive full-year growth in 2019 followed by a moderate rebound into next year, albeit with downside risks still persisting.

On the structural side, the German capital stock has been falling for a decade. Investment budgets could be upgraded in line with government spending priorities, but many of the proposed measures that would really make a difference are not yet broadly accepted and hard to imagine under the current coalition, especially as they relate to climate measures.

The climate summit held on 20 September—wherein a German coalition government roundtable agreed on an unambitious set of measures geared at protecting the climate—should be seen as part of that switch. But, the results have fallen short of convincing both the supporters of the climate agenda and those arguing for a more expansionary fiscal stance. The package was unconvincing because the climate lobby had been hoping for more ambitious measures on content, whereas the fiscal doves saw this as one (of many) potential turning points in the fiscal stance, as they want to spend more money no matter what.

While budgetary implications of the measures agreed upon at the summit are not clear, they are likely to be minor given the moderate size of the package (1.5% of GDP over several years) and the fact that they could be financed from a re-prioritization of spending (rather than additional outlays). It could, however, prepare the backdrop for a sustained increase in public and private infrastructure investment over the medium term by setting the framework for a number of proposals, including CO2 pricing. In many ways, this is a good example of the German way of defining pragmatic ordo-liberalism: set the regulatory framework, and let it be complemented by market forces.

Impact on Markets/Portfolios

We expect the period through the end of this year to be full of expansionary fiscal ideas, especially if Germany indeed suffers another negative growth print in 3Q19. Expansionary fiscal headlines could potentially push bund yields higher, but the economic and political situation is such that it is hard to see a significant structural change in fiscal dynamics for now. The deficit target will continue to be (roughly) a black zero and, leaving aside the current soft patch, the debt ratio is likely to continue on a downward trend, making a significant macro-driven extended sell-off in bunds unlikely.

Waiting for Fiscal Policy

We see scope for movement on the fiscal front in Germany, but the economic downturn would have to get worse before significant countercyclical fiscal stimulus is forthcoming. From a longer-term structural perspective, there is increasing appreciation for the role government has to play in providing a more proactive framework for (and partial financing of) infrastructure investments. But this will not amount to much in the very short run. Over the medium term, however, participation of the Green party in Germany’s federal government would likely come with a structurally higher green spending program. However, we believe this is unlikely to happen before the next scheduled federal elections in 2021. Godot is circling.

© Western Asset Management Company, LLC 2023. This publication is the property of Western Asset and is intended for the sole use of its clients, consultants, and other intended recipients. It should not be forwarded to any other person. Contents herein should be treated as confidential and proprietary information. This material may not be reproduced or used in any form or medium without express written permission.
Past results are not indicative of future investment results. This publication is for informational purposes only and reflects the current opinions of Western Asset. Information contained herein is believed to be accurate, but cannot be guaranteed. Opinions represented are not intended as an offer or solicitation with respect to the purchase or sale of any security and are subject to change without notice. Statements in this material should not be considered investment advice. Employees and/or clients of Western Asset may have a position in the securities mentioned. This publication has been prepared without taking into account your objectives, financial situation or needs. Before acting on this information, you should consider its appropriateness having regard to your objectives, financial situation or needs. It is your responsibility to be aware of and observe the applicable laws and regulations of your country of residence.
Western Asset Management Company Distribuidora de Títulos e Valores Mobiliários Limitada is authorized and regulated by Comissão de Valores Mobiliários and Brazilian Central Bank. Western Asset Management Company Pty Ltd ABN 41 117 767 923 is the holder of the Australian Financial Services Licence 303160. Western Asset Management Company Pte. Ltd. Co. Reg. No. 200007692R is a holder of a Capital Markets Services Licence for fund management and regulated by the Monetary Authority of Singapore. Western Asset Management Company Ltd is a registered Financial Instruments Business Operator and regulated by the Financial Services Agency of Japan. Western Asset Management Company Limited is authorised and regulated by the Financial Conduct Authority (“FCA”) (FRN 145930). This communication is intended for distribution to Professional Clients only if deemed to be a financial promotion in the UK as defined by the FCA. This communication may also be intended for certain EEA countries where Western Asset has been granted permission to do so. For the current list of the approved EEA countries please contact Western Asset at +44 (0)20 7422 3000.