Surplus Germany

Surplus Germany

On May 25, 2017, the Transatlantic Academy published a policy paper by Senior Fellow Wade Jacoby entitled "Surplus Germany," the eighth in its 2017 Paper Series.

Many countries want Germany to change its economic policies. For all its differences with the Obama administration, the Trump White House has reiterated U.S. concerns about Germany’s very large current account surplus, now in its fifteenth year and exceeding 8 percent of German GDP. Both administrations have worried that Germany’s surplus hurts the U.S. economy. Neither has successfully convinced German leadership a serious problem exists. In this, they join a long line of European officials who have sought changes in German policy.

For its part, German leadership has honed two complementary rhetorical techniques to deal with such charges. The first is to characterize trade outcomes — whether their large surplus or other countries’ deficits — as a simple matter of differences in competitiveness. The second is to manage any objections with a technique I call “normalize and apologize.” That is, officials prefer to stress that the German economy is basically just like any other advanced economy and that its competitiveness is available to any state willing to do the right policy reforms. When pushed to acknowledge that Germany enjoys unique benefits or when asked to change policies that negatively affect Germany’s partners, officials then become apologists, articulating and defending Germany’s uniqueness and purported inability to change.

This policy paper first discusses the Obama and Trump administrations’ concerns on the German surplus. It acknowledges that the U.S.-German bilateral trade balance should not be the issue (but rather Germany’s overall current account surplus in the global economy). And it distances itself from the idea that Germany’s gains come from “currency manipulation.” At the same time, the paper uses the European debate about similar kinds of imbalances to cast significant doubt on the competitiveness explanation favored by German officials. It turns out that competitive differences — which do exist across countries — are themselves a product of large financial flows. This is a hard to understand and therefore underappreciated facet of the trade debate. Trade balances are not driven simply by “high quality at low prices,” as the Germans like to say. They are driven also — and often much more — by financial flows that reflect policy-driven changes in incomes, consumption, savings, and investment. Of the three usual sources of growth — consumption, investment, and trade — Germany has grown disruptively reliant on the latter and has used policy instruments that tend to restrict the other two. This is what must change.

Once these underlying mechanisms are brought more clearly into view — the task of the latter part of this paper — Germany’s “normalize and apologize” tactics ought to become much harder to defend. German public officials generally do not understand these dynamics and so are genuinely puzzled when confronted with them. Even those who recognize Germany’s savings surplus tend not to link it to disruptive effects abroad. Germany’s most important official economic institutions — including the Bundesbank — often resist discussing the financial-cum-trade dynamics, choosing instead to enable the “normalize and apologize” tactics of non-economists. Thus, Germany’s “man on the street” and its woman in the Chancellery share the same misguided diagnosis. In policy terms, the diagnosis is clear: the government urgently needs to reduce taxes on labor and consumption (such as value-added tax), take a much more aggressive stance that moves public investment from the low end of the Organisation for Economic Co-operation and Development (OECD) to the higher end, and find ways either to reduce soaring national savings rates or improve the investment climate for firms or both. Special investment funds — such as that already envisioned for transportation — might also be established for schools and hospitals. Minimum pensions could be established. Investments in refugee training, housing, and medical care could be enhanced substantially, and Germany could more aggressively take the lead in Europeanwide initiatives in defense, refugee integration, border protection, and research and development. Germany’s fiscal situation would likely worsen, as has the fiscal situation of every country obliged or inclined to accept savings inflows in excess of what can be profitably invested.

This is a hard message for German politicians to hear in an election year. It’s also a hard message to deliver: if Germany’s friends are too blunt, they risk being ignored. If they’re not blunt enough, they risk being misheard. While the policy menu is flexible, the core message is not: the dynamics of financial flows are extremely powerful and disruptive. Germany can normalize and apologize to its trading partners for only so long. At some point, the world will be unable to absorb its capital surpluses (and those of several other countries). Another painful correction will follow, during which the preservation of the liberal international order cannot be assured. As a surplus country, Germany is highly vulnerable to an erosion of the liberal order. In that sense, change — however difficult — is in Germany’s core interest.