German Economy Gathers Steam, Institutes Revise Forecast

Exports and domestic demand, coupled with new investment and low interest rates are giving Europe's largest economy a "heavy push," according to a report from the group of six research institutes announced in Berlin on Thursday.

"In the spring of 2006, the German economy is in the middle of a strong upturn," the institutes wrote. While in autumn of last year they expected the German economy to expand by merely 1.2 percent, they now see growth climbing to 1.8 percent.

Joachim Scheide, chief economist at the Kiel-based Institute of Global Economics says Germany is growing in the wake of robust global expansion and a jump in domestic consumption partly spurred on by the policies of Chancellor Angela Merkel.

"We see that the current conditions continue to be good and that the indicators are booming especially as far as services are concerned. We also see a pick-up in new orders and industrial production," Scheide said. "The general mood is also positive because of a set of new measures by the government. So investment is stimulated by government programs and there are advanced purchases of goods because of the planned hike in VAT at the beginning of next year."

The data forecasts a 2.9 percent, below the European Union' limit of 3 percent of the GDP. Germany has been over the limit since 2002.

The institutes, however, also warned that despite the 1.8 percent growth, a virtual doubling as compared to last year, it may not be the massive turnaround many in Germany are hoping for, adding that they expect the gross domestic product to fall to 1.2 percent in 2007.

Changes to coalition tax plans suggested

While praising the government for giving budgetary discipline a high priority, the researchers said more needed to be done to lower spending, calling higher taxes "the wrong path to take."

The report also recommended Chancellor Angela Merkel alter her plan to increase the value-added tax by 3 percent to 19 percent at the beginning of next year.

The report, written by members of the IfW in Kiel, the DIW in Berlin, the HWWA in Hamburg, the Ifo in Munich, the IWH in Halle and the RWI in Essen, suggested a two-step solution to ease businesses' tax burden with an initial increase of 2 percent in 2007 and an additional 1 percent in 2008.

Improvements in domestic consumer confidence, long a German predicament, were partly attributable to the planned VAT rise, with households bringing forward big-ticket purchases ahead of the increase. Spending is likely to decline again after the tax jump, the institutes warned.

"The economy will lose momentum notably next year," they wrote. "Domestic demand will be dampened by a much more restrictive fiscal policy."

No major relief for labor market yet

The economic upsurge, however, is not predicted to bring a spate of new jobs with it. A moderate drop in unemployment of about 300,000 to 4.58 percent is expected by the end of the year, a number predicted to drop moderately to 4.44 million in 2007, according to the report.

Earlier on Thursday, the Federal Labor Agency announced a drop in unemployment as 187,000 people were hired in March, bringing the jobless rate down 4.79 million or 12 percent, but proved to be less optimistic than the six institutes.

"As we expected, the usual spring upturn has come later this year because of the cold March," agency head Frank-Jürgen Weise said. "However, despite the positive signals on the job market, an increase in employment is not visible."