MNI INTERVIEW: Fed Risks To ECB Easing-German Experts Chair

A slower-than-previously expected pace of monetary easing by the Federal Reserve would make it harder for the European Central Bank to cut interest rates, as it would run the risk of prompting a weaker euro, the chair of the German Council of Economic Experts Monika Schnitzer told MNI.

“If the Federal Reserve is slower in reducing rates, it will complicate matters for the ECB. In this case, the ECB might lower rates by 25 basis points or even more, but significant reductions would be challenging due to the potential impact on exchange rates, which could harm Germany,” Schnitzer said in an interview. (See MNI SOURCES: Fed, Geopolitics, Feed ECB Caution Over Cuts)

The ECB is also having to contend with a continuing weak performance by the eurozone’s biggest economy, where growth is falling short despite an expansion of 0.2% in the first quarter following a revised 0.5% contraction in the third quarter of 2023, she noted.

“We are not doing as well as expected, especially given the rise in real household incomes, which are projected to return to pre-pandemic levels by the end of next year,” Schnitzer said, adding “Even with lower interest rates, we don’t expect corporate investment to pick up noticeably before next year.”

UNCERTAINTY RESTRAINS SPENDING

With uncertainty over the next Federal budget, companies are unsure about tax incentives and the outlook for subsidies, while households are foregoing making big purchases such as on houses, making them less likely to spend on other items such as furniture and kitchens, she said.

“Companies are laying off employees, creating a general sense of insecurity, even though most companies are not making layoffs. Similarly, as long as the government has not decided on next year’s budget yet, companies face uncertainty over government policies such as what subsidies may be offered, or what tax incentives may be available,” she said.

While Chancellor Olaf Scholz and Finance Minister Christian Lindner have been wary of any move towards dropping Germany’s constitutionally-stipulated debt brake, which limits federal deficits to 0.35% of gross domestic product, Schnitzer said it should be retained but modified.

“The debt brake doesn’t guarantee that a sufficiently large share of tax revenues is spend on investment; it merely limits excessive spending financed by credits,” she said, noting that targeted investment subsidies would be a more efficient way of boosting private investment than provided by other approaches such as lowering taxes on profits.

CHINESE COMPETITION

Germany’s economy has suffered a significant shock from rising energy costs in the wake of the Russian invasion of Ukraine, leading some companies to shift production abroad, though Schnitzer still saw scope for losses to be offset by growth in other industries. At the same time, German car manufacturers have faced stronger competition from China, particularly in battery production for electric vehicles, leading companies such as Volkwagen to collaborate with Chinese manufacturers.

“They are still making money [in China], but they are under increased pressure. The situation is partly self-inflicted, as the auto manufacturers previously focused too little on electromobility,” Schnitzer said, speaking before the European Commission announces the results of a probe into Chinese subsidies for its electric vehicle industry. (See MNI EM: EU Tariffs On China EVs Seen Higher After U.S. Move)

“As the world economy recovers, we are losing market share to China in export markets we once dominated,” she said.

While inflation has decreased in Germany, with the inflationary effect of real wage increases likely to be mild, there is still catching up to do, according to Schnitzer.

“Inflationary pressures persist in the service sector, because previous cost pressures, from wage increases linked to rising energy costs, are only now reaching it,” she added.