In its Monthly Report, the Bundesbank’s economists write that the German economy recovered rapidly in the third quarter from its slump in the wake of the coronavirus pandemic. Irrespective of this very strong growth, aggregate output in the third quarter was still down by more than 4% from the pre-crisis level of the final quarter of 2019. The economists are not expecting the catch-up momentum to continue into the final quarter of 2020 due mainly to the recent resurgence of the pandemic in Germany and its European neighbours as well as the additional containment measures adopted for November. However, as these measures are impeding economic life to a much lesser degree than in March and April, a slump in economic output to a similarly subdued level as in the second quarter is not very likely. Furthermore, the international production conditions have barely been affected to date in spite of the very high number of new coronavirus cases throughout Europe.

Sharp rise in private consumption

Private consumption is likely to have undergone a very sharp increase in the third quarter of 2020, according to the Monthly Report. Households massively reduced their consumption and strongly expanded their saving in the second quarter. The Bank’s experts attribute this to temporary restrictions on consumption opportunities and restraint on the part of some consumers owing to the risk of infection. The fear of future job and income losses may also have contributed to the very high level of saving. With the easing of the containment measures and the stabilisation in the labour market, the Bundesbank’s experts say that the savings ratio is likely to have gone back down considerably in the third quarter, boosting private consumption.

Slight labour market recovery in Q3

The report states that the labour market in Germany shifted onto a mild path of recovery at the beginning of the third quarter. Unemployment decreased slightly after having peaked in June. The uptake of short-time work has dropped from its peak in April but has remained widespread. Six million persons were in economically induced short-time work in April, which amounted to 18% of all employees subject to social security contributions. According to the initial estimate by the Federal Employment Agency, their number had fallen by nearly three-fifths to 2.58 million in August. As there was also a decline in the number of lost hours worked per short-time worker, the volume of labour lost through short-time work fell by more than two-thirds. The Bundesbank’s experts assume that this trend continued in September and October. From November, however, they write that a short-lived rebound can be expected due to the surge in infection rates and the imposed restrictions on economic life. There could be a renewed increase in the number of lay-offs through the final quarter of 2020 and the first quarter of 2021, which would represent a setback to the recovery process in terms of employment and unemployment, the Bundesbank reports.

Impact of VAT cut on consumer prices only limited

In July 2020, VAT in Germany was temporarily cut until the end of the year in order to support the economy. This measure was designed to boost private consumption through lower prices. However, it is down to enterprises whether they do in fact pass on the VAT cut to consumers or, for example, use it to strengthen their margins. In the current issue of the Monthly Report, the Bundesbank analyses the effect of the VAT cut on consumer prices. Here, it should be noted that the standard rate of VAT only applies to slightly less than two-thirds of the basket of goods on which the Harmonised Index of Consumer Prices (HICP) is based. Some 15% of goods and services are subject to reduced VAT, whilst around one-quarter are not subject to VAT at all.

Taking into account these shares in the basket of goods, the Bundesbank’s calculations indicate that the HICP rate would have been 1.8 percentage points lower in each month from July to December 2020 if the VAT cut had been passed on in full. However, according to initial analyses, the pass-through of the VAT cut was actually significantly lower, the Bundesbank’s experts write. They say that in terms of annual headline HICP inflation, a little more than 60% of the VAT reduction might have been passed on. For core inflation excluding energy and food, the figure was just under 50%. In addition, there were no indications that prices had already been raised even before tax rates had been put back up again, as had frequently been observed in other countries. The Bundesbank therefore does not expect the inflation rate to return to distinctly positive territory until January.