ifo Economic Forecast Summer 2020: German Economy Heads Back Up

German Economy Heading Up Again

Overall, after a decline of 2.2% in the first quarter of 2020, GDP is estimated to have contracted by a further 11.9% in the second quarter. This slump is the sharpest decline measured in Germany since quarterly financial statements began in 1970; it is also more than twice as steep as the decline during the global financial crisis in the first quarter of 2009. As a result of the significant drop in the number of new infections, the shutdown measures have now been eased or, for some economic sectors, lifted completely. It is therefore considered certain that the economic downturn has been halted and economic activity has begun to recover. Due to the low production of goods and services during the shutdown, growth rates should be strong at 6.9% and 3.8% in the third and fourth quarters. Nevertheless, economic output is expected to be 6.7% lower on average this year than in 2019, and adjusted for the high number of working days compared to the previous year, the decline will be even more severe at 7.1%. At −6.1% in 2020, utilization of overall economic capacity is likely to fall to a record low.

The recovery will continue next year. GDP is expected to grow by 6.4% on average over the year. Under the assumptions made, however, production of goods and services will not return to pre-crisis levels until the end of 2021 / early 2022. The output gap is expected to close gradually in the course of the recovery and should average −1.1% for the year. This means that the German economy will remain below capacity in the coming year. This forecast takes into account the fact that production capacity in the coming year, which is determined in the context of the estimate of potential output, will be around 2% or a good EUR 60 billion lower than the last estimate as a result of rising corporate insolvencies. The previous estimate was made in December 2019 before the outbreak of the coronavirus.

Coronavirus Crisis Leaves Deep Marks on the Labor Market

The average number of people in employment in 2020 is expected to be around 450,000 lower than in the previous year. At the same time, the number of unemployed will rise by an average of about 430,000 to 2.7 million. The peak is likely to be reached in the third quarter of 2020 with around 3 million unemployed.

Economic Stimulus Package Stabilizes Consumer Spending

In the second half of 2020, private consumption is likely to stabilize again, as the temporary reduction in VAT in particular will provide a positive boost. However, the poorer income situation of private households as a result of short-time work and unemployment should initially have a dampening effect. On average, private consumer spending will probably shrink by 6.4% in 2020. However, the expected 5.1% increase next year will not yet be enough to return consumer spending to pre crisis levels.

Key Forecast Figures for Germany

Source: Federal Statistical Office; Federal Employment Agency; Deutsche Bundesbank; 2020 to 2021: forecast by the ifo Institute.
© ifo Institute June 2020

Euro Area: Deep Recession

Economic output in the eurozone slumped by 3.6% in the first quarter of 2020. In the second quarter, GDP is likely to have fallen significantly by a further 12.9%. The eurozone thus found itself in the deepest recession in its history. Overall, real GDP is expected to decline by 8.4% this year. Next year, however, economic output is expected to expand by 6.1%. Of the four largest countries in the eurozone, France will probably suffer the sharpest fall in GDP (−10.1%) in the current year. Spanish and Italian economic output is also likely to fall massively by −9.8% and −8.9% respectively. In Germany, the economy is expected to decline by 7.1% (adjusted for calendar effects). The coronavirus crisis is also likely to reduce potential output, as the number of corporate insolvencies is likely to rise significantly. Current estimates of potential output are therefore lower than those of last autumn. The output gap will still be negative in all major euro-area countries at the end of the forecast horizon.

In line with the decline in economic output, unemployment in the eurozone is expected to rise significantly from last year’s 7.6%. It is expected to be 9.4% in the current year and to fall slightly to 8.9% in the coming year. Unemployment in Spain, after 14.1% in 2019, should rise considerably to 18.5% in the current year and fall slightly to 17.8% next year. After rates of 9.9% and 8.5% last year, the labor market situation is also likely to deteriorate in Italy (10.5% and 10.9%) and France (9.6% and 9.8%). Unemployment rates will also rise in Germany, although the level there will remain well below the eurozone average.

Inflation is also likely to lose momentum noticeably. In the coming months, the inflation rate will remain moderate, since energy prices are currently below the previous year’s level. This year, the rate of inflation is thus likely to be only 0.2%, accelerating to 0.9% in the coming year.

Expansionary Fiscal Policy Counteracts the Crisis

To counteract the economic downturn and mitigate the consequences of the state-imposed production shutdowns, all eurozone member states launched major fiscal aid packages in the first half of 2020. The European Commission made it possible to provide support on a large scale. First, it temporarily lifted the fiscal rules so that national governments could benefit from the general escape clause of the Stability and Growth Pact and can deviate from the usual budgetary policy guidelines. Second, the Commission suspended the state aid rules. This allows targeted support for households and workers, as well as direct and indirect aid to companies. Such state benefits are regulated in normal times in order to prevent disproportionate distortions of competition in the internal market.

Global Economy: Historic Slump

A historically unprecedented slump in global economic activity is expected in the second quarter. A large number of economic indicators took a nosedive in the spring. One exception is China: in view of the earlier outbreak of the virus, overall economic production there is likely to have already picked up again in the second quarter. The low point seems to have been reached in many economies and a recovery is expected in the third quarter. There should be strong growth, although starting from a very low level. The expansion is likely to come primarily from the service sector, which previously slumped particularly sharply. Overall, global GDP is expected to fall by 4.8% this year and grow by 6.3% in 2021.

At 0.5%, the inflation rate in advanced economies is likely to be significantly lower this year than last. Even with the economic recovery beginning in the second half of 2020, price increases are likely to remain limited for the time being. Higher wage increases are rather unlikely in the forecast period in view of the fact that unemployment has already risen significantly in some cases.

Global trade in goods is also likely to have been severely affected in the second quarter, slumping by 13%. With the recovery in overall economic production underway from the summer onward, cross-border trade is also likely to grow more strongly again. However, trade in goods is not expected to return to pre-crisis levels by the end of the forecast period.

Risks

Pandemic course

Trade conflicts

Brexit

Deterioration in the budgetary position

Realignment of international value chains and sales markets