The global expansion has slowed down noticeably since the middle of the year 2000. At the same time, a phase of especially high dynamics came to an end. On the one hand, it was decisive that the increase in oil prices stemmed economic activity. On the other hand, monetary policy slowed down in order to reduce the high pace of the economy by the middle of the year and to decrease accelerated inflation. In this respect, smaller economic expansion was wanted.
The economy in the USA slowed down particularly heavily. Therefore, the decisive stimulus of the world economy was lost. In Japan, the unassertive economic upturn began to flag once again during the previous year; the domestic buoyant forces were not sufficient enough to compensate the loss of external stimuli. The rate of expansion within Europe fell as well, even if it wasn't particularly noticeable. The slowing down was primarily conditional upon the fact that real incomes increase slower due to purchasing power outflows in the oil export countries.
As the decline of the economy was recognisable in the USA at the end of the year, the central bank fulfilled an intended turnaround in interest rate movements. The Bank of Japan also reacted to a renewed clouding of the economy perspectives. The European Central Bank (ECB) has left its key interest rates unchanged so far. It would be allowed to decrease its interest rates in spring still, however, in anticipation of a weakened economic expansion and a falling acceleration in prices. The financial policy is also expansively orientated in the forecasting horizon in the industrial countries. In numerous European countries and in the USA taxes are lowered. The dynamics of the world economy is to remain restrained in the coming months. In fact, oil prices sank again and the financial policy has a stimulating effect. But yet, the decline in the USA determines, for the time being, the global economic climate. In Europe, the expansive financial policy counteracts a stronger decline. Furthermore, the Euro rate is still supporting in the first half of the year 2001. The production increase is speeding up in the coming year again with the global economic upturn. In the later course of this year, world wide economic activity would be able to gradually improve. The upsurge of prices will slack off in the forecasting horizon.
Uncertainties on the size and length of the economic weaknesses in the USA are currently substantial. This concerns, on the one hand, domestic demand. On the other hand, the US dollar could definitely deteriorate in value. This could be the case if investors were no longer prepared to invest capital in the USA to the same extent as up to now because the prospects on rates of return are poorly estimated.
Upswing at an end in Germany - but no distinctive weaknesses of economic activity
In Germany, the economic upswing came to an end in the second half of the year: the utilisation of the macroeconomic capacities did not increase again; it even declined a little in the long-run. In industry as a whole, inflows of orders and production, on top of that, were upwardly. The business climate, however, clouded over markedly. The slowing down of the economy was also spread to the job market. Since the beginning of this year, the number of gainfully employed has still only increased slowly. The upward trend of prices has dropped off.
A reduction of the economic dynamics was expected by the institutes in their joint report in autumn of last year. Therefore, the oil price shock, as well as the streamlining of monetary policy in the USA and in Europe were discussed. However, the size of the decline was underestimated. Therefore, domestic demand through the oil price shock was more strained than expected. In addition, the economy in the USA slowed down stronger than was assumed only in the autumn of last year; that stemmed the expectations of exports and worsened the business climate. Although the economy in Germany had a greater loss than expected, the institutes adhere to their assessments that it will not come to a marked weakness of economic activity or to a recession either. Instead, macroeconomic production remains markedly upward.
No fundamental change of policy required
Whether there is need for economic action, derived from the slowing down of economy, depends, above all, on the judgement of how the economy is to be developed in the foreseeable future and how the current rate of economic policy is to be valued.
In the year 2000, real gross domestic product increased in both Germany and in Europe with the highest rate for approximately ten years. This was significantly preferred through a substantial expansion of world wide economic activity. It could, however, not be counted upon that the world economy - the production increased more rapidly than ever before in the last 15 years - would grow on a continuing basis at high pace. It would have especially resulted in inflationary strains in the USA with persistently high above operating rates of capacity, which would have probably followed a pronounced recession. Along with the world wide economic activity, a further factor promoted exports, which can be referred to as ineffective: the devaluation of the euro has added to the unusually strong export boom in both Germany and in Europe. It was not to be expected, nor was it desired from the macroeconomic point of view, that the euro would further devalue. In fact, since the autumn of last year the euro has somewhat recovered.
The European Central Bank has still not reacted to the deterioration of the economic prospects but the key interest rates have remained unchanged. This is comprehensible against both the background of monetary policy strategies of the ECB, as well as the indicators to economic and price development. In order to maintain consistency in earlier decisions and along with that credibility as well, the ECB should continue to base itself only on the two-pillar-strategy which it chose. On the one hand, it orientates towards a reference-value for the development of money supply. In addition to that , it uses a broad pack of indicators in order to evaluate the trend of inflation in the future. Both pillars indicate to the fact that the risks for price stability in the forecasting horizon will no doubt decrease. For there to be no incorrect signal for price stability, the monetary loosening at that point in time can only slightly fall. The institutes regard a 0.5% reduction of key interest rates to be justified.
Currently, it is controversially being discussed how the financial policy should react to the economic decline. The institutes are pleading, as in earlier reports, that automatic stabilisers should effect the financial policy. On the one hand, that means it can now not be a matter of an additional spending programme, for instance, to stimulate demand. On the other hand, there is, however, no reason now to heighten saving or raise taxes and fiscal charges as the deficits in public authorities are falling cyclically higher than was expected a few months ago.
The institutes suggest a concept of budget consolidation with which the medium-term spending path is determined. In order not to risk this, the government is only allowed to stem additional spending desires if, at the same time, reductions of costs in other areas are suggested and also accepted. Such a rule obligation of budgetary policies was successfully practised in the USA with the Budget Enforcement Act, where such a path was determined for consumption expenditure. In so doing, a ceiling was put forward for the spending that has to be approved on a yearly basis. Due to a threatening overrun of these borderlines, cutbacks of other spending must be undertaken. In this way, the increase in spending was able to be slowed down. The cyclical additional proceeds could then be used with respect to reducing the budget deficit and thereafter to pay off debts. The medium-term specified balancing of the budget would be made easier also in Germany with corresponding provisions.
The moderate conclusion of pay agreements of last year have significantly meant that employment went up again and, at the same time, that the upsurge of prices remained restricted in spite of noticeable external impulses of general price increases. Now it is an issue of setting the future course of pay rate policy for the year 2002 and beyond. The institutes are pleading to continue with the moderate rate. This means that the behaviour of wages should principally be orientated towards productivity increases and especially with regard to allowance for the state of the labour market.
The credibility of a persistently moderate wage policy rate could be increased if the wage parties were to engage in wage agreements, which suffice somewhat further in the future. A possibility would be - as already practised in the past - to stipulate longer terms of collective agreements. However, to this end there are also - as in last year - uncertainties as to whether the wage policy rate is actually proceeded with. Another possibility would be to terminate the wage agreements not just for the current but for each coming year. This early signal of monetary policy is to be assessed in the medium-term as with the rate of the wage policy.