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This article is about the performance of Germany’s economy in the coming year after being affected by the global economic crisis in 2009, and how GDP changes in relation to consumption, exports and also public deficit. Gross domestic product (GDP) is the value of all final goods and services produced within an economy annually; stagnation is when growth in the real GDP is negligible (less than 2-3%) and is sometimes used to describe low trading volume.
Due to the global economic crisis, European countries cut their spending on domestic and foreign goods. Germany is affected since most of its goods are exported to Europe.
Private consumption within Germany also decreased, dragging GDP down by 0.2% in the forth quarter of 2011. Since GDP is made up of household’s consumption(C), firms’ investments (I), government’s spending (G) and net export of a country (X-M) and is equal to aggregate demand (AD). So when C and (X-M) is reduced, AD for German goods shifts left to AD2, resulting in a decreased price level (P2) and real production at Q2. The diagram illustrates the AD and aggregate supply of German goods.
Decrease in GDP can also be shown in the business cycle, a diagram showing fluctuating levels of economic activity of an economy over a period of time. Currently, Germany’s economy is in the recovery phase with stagnation, because Germany’s economy is recovering from recession in 2009 with slow increase in GDP from 2010 to 2011, and its GDP is predicted to increase in the coming year. Germany is having slow economic growth after coming up from the trough.
Yet, the German government successfully reduced its public deficit— amount of its budget expenditure exceeding the expected revenue, cutting fiscal deficit to real GDP ratio to 1 percent and indicating Germany’s ability to pay back its debts has improved. It is because public deficit and national debt is directly related: public debt shrinks if government runs a budget surplus, or a decreased budget deficit. The German government can achieve a lower deficit to real GDP ratio by increasing taxation and decreasing government spending, which will reduce aggregate demand and real GDP.
To resolve the problem of decreased exports and real GDP, the German government can employ expansionary fiscal policy to increase real output by increasing its expenditure and/or decreasing taxation. AD2 shifts to AD3 when the disposable income of people increases through reduced taxation and their buying ability improve; or government increases its expenditure. But this would increase public deficit, leaving Germany to either decreases public deficit or improves economic growth.
Since it is a member of the Eurozone and its deficit to GDP ratio must be lower than 3% or it will face penalty, it seems rational to continue its efforts to reduce its deficit. Yet, because its debt-to-GDP ratio is quite low, an economic growth is more desirable such that the resulting deficits will be paid for by an expanded economy if expansionary policy is employed.
Germany can also consider diversifying the market of its domestic products such that net exports increases, ensuring a stable export performance and reducing the effect of shocks from external demands. German producers can expand their market to some developing countries to their expand income sources. Emerging economies, such as India and China, are dependent on commodity products but also have the buying ability especially for goods with better quality. By increasing the competitiveness of their products, such as price and after-sales service, German firms can compete with producers from non-Europe region.
In the long run, this method is more sustainable as there are no costs involved for the government so it will not be a burden to public deficit. But by spreading out the business risks across multiple markets, the impact of one market’s major failure is less. Yet, market diversification comes with its difficulties as well such as understanding the cultural, regional differences or current problems in the potential market through researching, planning, marketing. This process costs highly and does not guarantee success in the new market.
In conclusion, Germany’s economy needs improvement on its economic growth and it is wise to achieve this by diversifying the market. Although it will take time and effort, it tackles the main problem of decreased exports and it is more sustainable than expansionary policy due to lesser cost and resources put in by the government.
Economy contracts in fourth quarter
Agencies in Frankfurt
Feb 25, 2012
Germany, Europe’s biggest economy, slashed its public deficit to set an example for debt-laden euro-zone economies last year – but its economy also contracted, raising the spectre that the Greek crisis could drag the powerhouse into recession.
The public deficit was cut to 1 per cent of gross domestic output in 2011 from 4.3 per cent in 2010, the first time since 2008 when the deficit ratio was below the 3 per cent limit set when the euro zone was established. However, The German economy also shrank 0.2 per cent in the fourth quarter on sagging exports and private consumption.
Europe’s fiscal turmoil has forced governments and consumers across the 17-nation euro economy to rein in spending, damping demand for German goods in its biggest export market. Europe’s largest economy may avoid a recession, defined as two successive quarters of declining GDP.
“The German economy is in a soft patch that it is going to overcome,” said Gerd Hassel, an economist at BHF Bank in Frankfurt. “The fundamentals of the economy are different from countries like Spain and Italy. They’re basically sound.”
The GDP data published yesterday shows that the contraction in activity was mainly due to a 0.8 per cent drop in exports, traditionally the main driver of growth in Germany’s economy. Economists now expect the economy to stagnate in the first quarter of this year, dodging the two quarters of negative growth which define a recession, before recovering from the second quarter.
After emerging from the 2009 recession with a record 3.7 per cent growth in 2010 and 3 per cent growth last year, the Bundesbank predicts the German economy will expand 0.6 per cent this year. This is compared with Italy’s 1.3 per cent.