Germany Poised for Strong Growth in 2022, Despite Near-Term Challenges

“In the summer half-year of 2022, a strong recovery will set in,” Germany’s Ifo Institute’s head of forecasts Timo Wollmershaeuser said.

The Ifo Institute forecasts gross domestic product growth for 2022 in Germany of 3.7%, following a projected contraction of 0.5% in the fourth quarter of 2021 and stagnation in the first quarter.

The new Omicron Covid-19 variant has added a new burden to the economy amid a surge in cases that prompted new restrictions in Germany on Dec. 2, clouding the near-term economic outlook.

These restrictions will hit the services sector in particular, while the manufacturing sector continues struggling with supply-chain disruptions.

“The supply situation will likely need to improve a lot more before there is any real take-off in manufacturing production,” IHS Markit’s associate economics director Phil Smith said.

Supply chain disruptions are expected to start easing in the first half of next year, with a stronger improvement in the second quarter, UBS chief German economist Felix Huefner told The Wall Street Journal.

According to the latest release of the order backlog index, 7.4 months of production would be necessary just to fill past orders, Mr. Huefner said. Germany’s order books are currently at record highs and for him, this raises hopes for a strong rebound in industrial production, boosting the recovery.

UBS forecasts 4.9% GDP growth in Germany in 2022.

“Unlike in 2021, manufacturing shouldn’t slow down the recovery, but actually boost it,” Commerzbank’s senior economist Ralph Solveen said.

Germany’s industrial sector was a clear laggard among its European peers in 2021, as a shortage of semiconductors weighed heavily on the auto sector and its suppliers, Oxford Economics chief German economist Oliver Rakau said. “But supply bottlenecks should ease, bolstering the region’s industrial sector in 2022 and leading to German industry outperforming,” he said.

Supply-chain issues have been felt in producer prices, which posted their biggest increase in 70 years in October, while consumer prices also continue their upward trend. The annual rate of inflation by EU-harmonized standards hit 6.0% in November.

“The December inflation number could be a new record high since German reunification,” ING’s global head of macro Carsten Brzeski said.

But in 2022 the base effect from the VAT reversal will disappear and this alone should bring headline inflation down by more than 1 percentage point, he said. Other one-off factors like base effects from higher energy prices and post-lockdown price mark-ups will also start to abate, ING’s Brzeski said.

UBS’s Mr. Huefner warned that inflation could stay elevated for longer if it results in higher wages, however, and the risk of a wage-price spiral will need to be watched carefully when next year’s wage negotiations start. The German labor market is very tight and the new government has agreed to an increase of the minimum wage to 12 euros an hour, he said.

Before a brighter spring, the German economy has a difficult winter ahead, in which government support will be needed.

So far, the government has extended to March the furlough program and its “bridging allowance”, Uberbruckungshilfe in German, which subsidizes fixed operating costs of companies with coronavirus-related revenue declines of at least 30% in each month for which the grant is requested.

“The lesson from the past lockdowns was that the best you can do when people can’t go out is to limit the damage to workers and companies,” Mr. Huefner told The Wall Street Journal.

If further economic stimulus is needed, the German government has scope for more, he said. “The debt brake sounds more restrictive than it actually is,” Mr. Huefner said.

One of the main questions following the election was what would happen to Germany’s constitutional debt brake, which limits borrowing, as it was a point of disagreement between the coalition parties.

The debt brake remains suspended next year, thanks to an emergency clause that allows borrowing above stipulated limits in exceptional circumstances. But in 2023, the debt brake should be back.

The coalition agreement found a compromise between respecting the principles of the national debt brake and carving out some off-balance sheet solutions to provide support for the private sector’s investment needs, Gilles Moec, chief economist at AXA Investment Managers told The Wall Street Journal.

“This is not heralding a revolutionary public investment programme, but at least it’s consistent with supportive German demand in the years ahead,” he said.