„Germany remains the anchor of stability in the eurozone”
Ms. Neiss, the way is clear for a reform of the debt brake in Germany, provided that the Bundesrat also agrees to it like the Bundestag already did. How optimistic are you that higher fiscal spending will lead to significantly higher economic growth?
We know from economic research that a more expansive fiscal policy can have a strong growth-promoting effect, especially when the economy is weak. And Germany is clearly in such a situation right now. Investment in infrastructure in particular can boost economic growth. This is because it increases demand for labor and production goods in the short term. And in the long term, the improved infrastructure increases Germany's growth potential. How large these effects will be, however, depends on whether the investments are carried out well.
What advice do you have?
Investments should definitely be accompanied by reforms. These include, for example, shorter approval procedures for construction projects. It is not uncommon for projects in Germany to fail because of bureaucracy rather than money. Removing these hurdles is also important in order to boost private investment. And this will be needed despite the huge government spending. The huge investment requirements can only be met in conjunction with private investment.
Germany, like many other European countries, also wants to spend large sums of money on strengthening the military. How do you assess the possible economic effects for the eurozone?
Military spending is not investment in the traditional sense. The effect on the economy and, above all, the growth potential is therefore likely to be lower than for infrastructure spending. The extent of the growth effects will also depend on the proportion of defense ordered from European arms manufacturers.
Germany must not remain on this path in the long term.
Katharine Neiss
We have talked a lot about economic growth, but what impact is the more expansive fiscal policy likely to have on inflation?
That depends, among other things, on whether the European states coordinate their military spending well. If they don't, there is a risk they will enter into a bidding war and drive up prices. All other things being equal, the more expansive fiscal policy increases inflationary pressure. However, it is currently difficult to quantify how much. And if fiscal policy is aimed at increasing productive capacity that should mitigate the impact on inflation.
Some economists are concerned that the significantly more expansive German fiscal policy could become a threat to financial stability in the medium term. Do you share these concerns?
Germany must not remain on this path in the long term. Weak growth itself can be a trigger for financial instability. As already mentioned, more private investment is needed to cover investment requirements. However, the current plans do not threaten financial stability. Germany remains the anchor of stability in the eurozone. Incidentally, the eurozone's current national debt ratio is not that high when compared with other countries such as China, the USA and the UK. The deficit is also growing more slowly. In this respect, it can be said that the European fiscal rules are working well.
The extent to which Germany and the eurozone can grow also depends on the result of the tariff conflict with the USA. What do you expect here?
I can not pretend that I know what Trump does. But of course, as an economist, I do have a forecast. I think it is likely that the tariffs will be higher than during Trump's first term in office. But we are still far away from an all-out tariff war that affects services as well as goods.
How big would the negative effects of such a tariff war be?
Immensely. But I would like to emphasize another point. Regardless of the final outcome of the conflict, a great deal of damage has already been done and can be seen in the economic data. There is huge uncertainty among companies. At the moment, they cannot say what the general conditions will look like in the coming months. Naturally, they are therefore holding back on investments. This not only weakens the economy at the moment, but also reduces the available capital stock in the future and therefore the growth potential.
With high levels of government debt, it is even more important that a central bank ensures price stability.
Katharine Neiss
Economist Klaus Adam said last week at the conference „The ECB and its Watchers“ in Frankfurt that the more expansive fiscal policy will strengthen the ECB's position. Do you agree with that?
Absolutely. With high levels of government debt, it is even more important that a central bank ensures price stability. If it fails to do so, the treasury will have to pay higher interest rates, which will reduce its financial leeway. The more expansive German fiscal policy also has a positive effect in the tariff conflict with the USA.
Can you explain that a bit more?
If Germany has the prospect of more economic growth, this will strengthen the negotiating position of the EU with the USA. Because with greater economic strength, the EU is less susceptible to pressure from Donald Trump. This in turn reduces the likelihood of Trump actually resorting to very large tariff increases.
Growth stimulus for Europe through a more expansive fiscal policy, but dampening effects from the tariff conflict. What does this mean for the ECB's projections, which have not yet taken either really into account? Will inflationary pressure rise or fall?
That is unclear. It is therefore right that the ECB does not commit itself to a specific interest rate path and decides from meeting to meeting. The uncertainty is extremely high. As ECB President Christine Lagarde said in the conference „The ECB and its Watchers“, achieving the mandate of price stability is a major challenge in these times. Therefore, the most important thing for the ECB is to leave no doubt that it is doing everything it can to achieve the inflation target of 2% in the medium term.
