Russia’s war of aggression in Ukraine is shaking up the EU, accelerating its evolution into a fully-fledged sovereign political power, complementing its existing economic strength. The EU has, in my opinion grown more powerful through several crises, Germany as its economic powerhouse, has not.
“Economic Europe” has evolved into a strong and stable single currency, making the devaluations of the era of flexible exchange rate systems a distant memory. And since the eurozone sovereign debt crisis, the bloc has also, in my opinion, strengthened its financial system and monetary tools. More recently, in response to the COVID-19 pandemic, the EU has developed converging economic structures and a common budgetary capacity. Furthermore, thanks in part to Next Generation EU, the 750 billion euro funding program launched in the wake of the COVID crisis, Europe-wide programs are also building up strong capabilities in the areas of digital technology, health, hydrogen and semiconductors.
Now let’s take a look at Germany, a country which always seems to provide the same answer, no matter what the question. Take German fiscal policy, for example. The answer after the global financial crisis? Austerity. The European sovereign debt crisis? Austerity. Russia’s invasion of Ukraine? Once again, the German finance minister’s answer seems to be: austerity.
But unlike other countries in the EU, Germany’s problem was not one of overinvestment or capital overhang. That’s why austerity, in my opinion, just magnified Germany’s under-investment and made its economy less resilient to the latest energy shock. Giving the same answer repeatedly is not only extreme boring and does not just betray a lack of creativity – for Germany today, more austerity in my opinion is also the wrong path.
Successive episodes of turbulence since the 2008 global financial crisis had already blown German gross domestic product (GDP) growth off course.
To this day, the economy still hasn’t regained its precrisis trend. Even before Russia’s invasion of Ukraine in February, the pandemic exposed the vulnerabilities arising from Germany’s under-investment. Together with an aging population, this shortfall contributed to weak growth. Russia’s invasion is, in my opinion, nothing more than the latest shock to German supply and demand.
The Bundesbank and Finance Ministry seem to feel this blow to the economy should simply be accepted. But the fighter fiscal and monetary policies they advocate would further suppress demand.
Moreover, there are signs that Germany’s trend growth continues to decline. Halting this “death by a thousand cuts”, where multiple crises add up to a disturbing larger picture, will in my opinion require bold action and a rethink of Germany’s economic model. Internationally, German austerity risks worsening trade imbalances and straining transatlantic unity. Tensions between the West and China – a key export market for German products- had put the brakes on Germany’s export – led economy. China’s push for more and more self-sufficiency alongside global supply chain fragmentation will further challenge Germany’s business model. This is why Germany needs to wake up and must embrace the fact that trade with the EU is seven times larger than with China, and finally recognize that it needs to invest at home and in its key trading partners first. The EU is the world’s largest and most open trading bloc. But the full benefit of the union will in my opinion remain unexploited unless Germany steps up to a leadership role.
Instead of austerity, to offset actively the damage to supply and mitigate the impact of inflation from the war in Ukraine, German policymakers should urgently engineer a positive shock. German industry relies on cheap fossil fuels from Russia. In a worst-case scenario of a sudden stop in Russian energy flows to Germany combined with low river levels like the Rhein. I estimate that the cumulative impact of inadequate policies pursued since the great financial crisis could approach a staggering 15% of German GDP. Such a shock requires a complete overhaul of Germany’s energy supply.
Some like the political party ‘Die Grűnen’ will want renewables to take center stage, but complementary sources will be needed if Germany wants to have secure and consistent supplies. Investing in fossil fuels and nuclear energy domestically is likely to be part of that picture in my opinion. The conclusion is clear: existing domestic supply will not be able to plug Germany’s demand gap.
Instead, it could invest in public infrastructure, on a scale reminiscent of the Marshall Plan. In particular, investment in energy infrastructure, such as the Next Generation EU plan that Germany supported during the pandemic would enhance Germany’s security, accelerate its green transition and generate positive innovation spillovers.
More fiscal spending across Europe could also provide further impetus for common Eurobonds. German public opinion would, in my opinion, be less reluctant to embrace such an initiative because at least some of the funds would be spent at home. It would also be a step towards fiscal union in the euro area, which in my opinion is just a matter of time anyways. Higher spending at home would also boost the entire EU. In turn, Germany’s deep integration with the EU economy would also see those economic benefits flow back to Germany itself.
Germany in principal, has the talent and resources needed for the investment I propose. Its leaders should set out a confident vision of its future and trust that investing in their country will deliver a good return. Yes, higher spending means more debt, but future generations stand to inherit the assets that that debt builds. NOT investing will not only lead to a permanent loss of GDP – it will ensure that talents leave the country and provides cold comfort to any generation.