Germany's economy is experiencing a strong upswing. "We will see a persistently high underlying pace of economic growth not only in the final quarter of 2017 and the first quarter of 2018, but also over the remainder of 2018, during which time the German economy will grow robustly," said Bundesbank President Jens Weidmann in reference to the Bank's latest projection. Driven by lively foreign demand, the manufacturing sector is seeing dynamic growth, while the sharp upturn in business investment is continuing, according to the Bundesbank's semi-annual projection. Private consumption and housing investment continued to benefit from the outstanding labour market situation. Against this backdrop, the German economy could expand by 2.6% this year and 2.5% next year in calendar-adjusted terms. The Bundesbank's experts have thus made significant upward revisions to the expectations they reported in the June projection, when they had anticipated growth of 1.9% this year, 1.7% in 2018 and 1.6% in 2019.

Strong capacity utilisation

In 2019 and 2020, the Bundesbank's economists expect lower growth in the German economy, with forecast rates of 1.7% in 2019 and 1.5% in 2020. "The further growth potential is being constrained, above all, by strong capacity utilisation and, in particular, labour shortages," Mr Weidmann commented. The projection states that the growth rates of gross domestic product (GDP) are clearly outpacing those of potential output, particularly in the short term. "Aggregate capacity utilisation could soon reach similarly high levels to those seen at the peak of the last economic cycle in 2007," the Bank's economists write, adding that the current particularly brisk export activity is set to lose momentum.

Bottlenecks in the labour market

According to the Bundesbank's experts, favourable developments were observed on the labour market in the second and third quarters of this year, and are set to continue into next year. Leading indicators suggest that employment will see a further strong increase and that the number of employed persons will fall, they write, also noting that, as a result of demographic and migration factors, the shortage of skilled labour will be amplified. "A crucial factor for the future labour supply is that substantially fewer persons from other EU member states are coming to Germany," explain the Bundesbank's economists, adding that incomes have recently increased significantly more strongly in central and eastern European countries than in western Europe. Furthermore, they write, unemployment is falling in those countries as well as in southern EU member states, which is subsequently lowering the probability of individuals migrating to Germany.

Given the bottlenecks anticipated in the labour market, the Bank's experts are expecting wages to increase. "It can be assumed that management and labour in the 'large' wage round of 2018 will negotiate perceptibly higher rates than before. This is primarily due to the excellent economic situation, which is also reflected in stronger productivity gains and considerably increasing domestic labour market tension, but also because inflation rates have risen in the meantime," the report states. However, it adds, staff shortages will probably become further exacerbated in 2019 and 2020, with the result that negotiated rates of pay will rise even more dynamically than in 2018.

Rising consumer prices

The Bank's experts also predict price developments. As measured by the Harmonised Index of Consumer Prices (HICP), the inflation rate has increased considerably to 1.7% on average for 2017 owing to markedly higher crude oil prices as well as food shortages. It is likely to remain similarly high until 2019, before potentially rising to 1.9% in 2020. The Bundesbank's economists state that energy prices, which, according to expectations, will scarcely rise any further, are concealing increasing price pressure among other goods and services resulting predominantly from more dynamic wage growth. Excluding energy and food, inflation is therefore likely to climb from 1.3% in 2017 to 1.9% in 2019. According to the forecast, an inflation rate of 2.1% is conceivable for 2020.

The Bank's experts also analyse the developments that could have an impact on their projections. Bundesbank President Jens Weidmann cautioned that, once a new federal government has been formed, it is likely that additional budgetary burdens will be approved and fiscal policy will therefore be more expansionary. This is a key reason why economic growth, and also price inflation, to a lesser extent, could potentially even be somewhat stronger than currently forecast, he explained.