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After Merkel: Is Germany at the End of a Cycle?

Three questions to Clemens Fuest

After Merkel: Is Germany at the End of a Cycle?
 Clemens Fuest
President of the ifo Institute
 Alexandre Robinet-Borgomano
Senior Fellow - Germany
 Marion Van Renterghem
Senior Reporter, Albert-Londres Prize Winner and Author

Angela Merkel's departure in September 2021 marks a political, economic, and geopolitical turning point. To understand how Germany is preparing for the post-Merkel era, Head of our Germany Program Alexandre Robinet-Borgomano and Senior Reporter Marion Van Renterghem have launched a series. In this second episode, we asked three questions to Clemens Fuest, President of the Ifo Institute, on Germany’s leadership, competitiveness and prosperity. 

What reforms do you think Germany currently needs in order to achieve the right balance between competitiveness and a better distribution of wealth?

The evolution of income distribution is a major issue for Germany today and will remain one in the future, but this should not undermine growth and competitiveness. It is likely that the gap between the income and employment prospects of the highly skilled and the less skilled will continue to grow in the years to come. The pandemic only served to exacerbate this trend. 

In fact, the Covid-19 crisis has accelerated structural change, digitalization, and the decarbonization of our societies. At the same time, the pandemic has aggravated the situation for people from less educated backgrounds, who were already disadvantaged in the past. Two types of reforms can mitigate this negative trend: 

  • reforms that increase economic growth by targeting the pre-market phase, such as greater investment in education;
  • reforms related to classical redistribution including income tax, wealth tax or the reintroduction of the network tax.

We should focus on the first type of reforms to promote more equality and avoid reforms that create a systematic conflict between distributional goals and economic growth. Germany is now surrounded by countries that do not have a wealth tax. If it was to introduce such a tax right now, it would send a very negative signal for investments. This would probably lead to a capital flight.

Germany has long been criticized for letting the interests of its industry determine its foreign policy. How does Germany view the future of its relationship with China?

I don't think that the Merkel government has been particularly industry-friendly. There is an awareness in Germany that prosperity is based on our ability to export because we have specialized in industrial products and services. We know from experience that recovery from a crisis often depends on exports.

China is indeed a very important partner, perhaps too important today. But experience so far shows that German export companies have been very flexible in finding new markets.

The Covid-19 crisis has accelerated structural change, digitalization, and the decarbonization of our societies.

At the end of the 2000s, when the financial crisis occurred, exports to Europe became more difficult and were replaced by other export markets. Looking ahead, it is likely that the economy will continue to grow and that export markets will further diversify. China will remain in the lead, but this will not prevent other markets from developing and from creating new opportunities.

Following 16 years of prosperity, it is often said that Germany is now reaching the end of an economic cycle. Is the German economy well prepared for the future?

I don't believe much in cycle theories. After this crisis, a lot will depend on how companies and people position themselves vis à vis the new opportunities that will arise. I think that German companies are well positioned to take advantage of the recovery and to continue driving a strong economy. 

On the other hand, I think that our ability to adapt will not increase in the coming years. For example, with the Green Deal, we are becoming very interventionist and bureaucratic. New regulations are constantly being introduced for companies and this certainly has an impact on economic development.

German companies are well positioned to take advantage of the recovery.

Like any economy, Germany has its strengths and weaknesses. The advantage of the corporate structures is that there are many family owned businesses, often medium sized companies but some of them rather large and highly competitive. How will these business models survive? This is a big challenge! Many German companies are rather carbon-intensive. For instance, for the automotive industry, the combustion engine is still important, much more than most people think. The transition towards electric mobility is under way but not easy.

Three years ago, we carried out a very interesting study on this issue in the German automotive industry, where we examined know how in driving technologies. We found that German car manufacturers are world leaders in knowledge about combustion engines, but they also own a large number of patents in electric mobility. German car manufacturers are in the process of shifting production towards electric vehicles. But at the same time production of combustion engines continues. Due to these parallel structures, productivity in this sector has been declining during the past three years.


Copyright: Ronny Hartmann / AFP 

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