The Bundesbank writes that the German economy’s current situation and outlook hinge on the COVID-19 pandemic. As infections decreased and containment measures were eased, the economy saw a strong recovery in the third quarter of the year. However, the economic recovery is likely to be temporarily interrupted in the final quarter of 2020 and the first quarter of 2021 owing to the autumn resurgence of the pandemic in Germany. It is not likely to take as hard a hit as in the second quarter of 2020, though.

Gross domestic product (GDP) is projected to fall by 5.5% this year in calendar-adjusted terms. However, the experts are expecting strong economic growth of 3% and 4.5% for 2021 and 2022, respectively. This rate is set to weaken to 1.8% in 2023. According to the report, “GDP will thus have already returned to its pre-crisis level by the beginning of 2022.” In the process, German exports are likely to represent a solid pillar of economic recovery owing to the resumption of the economic upturn in key partner countries.

Private consumption driving economic recovery

Private consumption remains heavily dependent on the pandemic situation. In the first half of 2020, consumers’ spending fell significantly more sharply than their disposable income, and, according to the economists, their saving ratio, mirroring this development, rose very steeply. This was due to “involuntary saving”, as shown by a Bundesbank survey. Just under half of those survey respondents who had reduced their consumption gave as a reason the unavailability of goods and services owing to the restrictions imposed during the pandemic. For roughly one-third, fear of infection was the decisive factor. On the other hand, classical precautionary motives, such as concerns about future job losses and loss of income, played only a minor role. “If, from the second quarter of 2021 onwards, the pandemic is gradually overcome by medical solutions, involuntary saving should diminish in significance”, the report continues. The experts assume that private consumption will then undergo a very dynamic recovery and become a crucial driver of the economic upswing.

Unemployment will not reach pre-crisis level until 2023

The Bundesbank writes that the labour market proved to be fairly robust. Although there was a massive slump in the number of hours worked, the fluctuations in employment and unemployment were comparatively moderate. This was due in part to the extensive use of short-time work schemes, measures agreed by employers and trade unions to safeguard jobs and stabilising government measures, as well as the rapid economic recovery in the third quarter. In the experts’ opinion, as the economy picks up, the number of hours worked is likely to grow as a result of reduced short-time work and working time accounts being filled up. From the second half of next year onwards, growing success in combating the pandemic is likely to increase enterprises’ willingness to recruit new staff. However, the Bundesbank is not expecting unemployment to return to its pre-crisis level over the projection horizon up to 2023.

Inflation rate set to return to perceptibly positive territory as early as 2021

Measured in terms of the Harmonised Index of Consumer Prices (HICP), inflation stood at -0.7% in November. This reflected, in particular, falling energy prices and the VAT cut in force over the second half of the year. The experts are expecting a considerable decline in the inflation rate to 0.4% on an annual average for 2020. After adjustment for the VAT effect, core inflation excluding energy and food will probably be somewhat higher than 1%.

Next year, the reversal of the VAT cut is likely to cause prices to pick up. In addition, further price-driving climate package measures, such as the introduction of carbon emission certificates and the increase in motor vehicle tax, will enter into force at the beginning of 2021. “Headline HICP inflation should therefore already start to return to perceptibly positive territory from the beginning of 2021.”

Public finances: a key pillar of the economy

Public finances have been considerably stabilising the economy as a whole during the coronavirus crisis. The government deficit is projected to stand at around 5% of GDP this year following a surplus of 1.5% in 2019. Moreover, the Maastricht debt ratio is set to climb to around 70%. However, public finances are likely to improve as the economy recovers and the pandemic support measures come to an end.

Bundesbank develops alternative scenarios

For the projection horizon up to 2023, uncertainty is particularly high, especially owing to the coronavirus pandemic and its economic impact. That is why the Bundesbank has developed two alternative scenarios alongside the baseline scenario and, for each of these scenarios, has calculated the possible trend path of individual metrics.

In a milder scenario, in which medical solutions are available more promptly in Germany and abroad and containment measures could be fully phased out by as early as the end of 2021, foreign demand will recover more quickly and private consumption will expand earlier and more sharply. GDP could already reach its pre-crisis level in mid-2021 and, in subsequent years, grow at levels similar to those in the baseline scenario. In a more severe scenario, in which the developments in the crisis are assumed to remain serious, the pandemic would not be sufficiently contained in the next few years. Containment measures would accordingly have to remain in place until the end of 2023, though they would be eased little by little. Under those conditions, aggregate output would take a substantial and sustained hit despite even stronger support from public finances.

Projection December 2020