A new German economic era dawns as the Bundesbank changes guard

Opinion piece (Financial Times)
22 October 2021

Global tensions have convinced politicians that an economically strong and united Europe is more important than a balanced budget.

On Wednesday, German negotiators received some unexpected news as they began hashing out a coalition government programme: Jens Weidmann tendered his resignation as Bundesbank president, citing personal reasons for ending his eight-year term prematurely. A former economic adviser to Chancellor Angela Merkel, Weidmann represented the more hawkish views in the European Central Bank’s governing council.

Unlike some previous German central bankers, he did not resign to make a dramatic statement of dissent. But his departure marks the end of an era in which Germany’s concerns about government debt and inflation dominated its economic policies at home and in Europe. The incoming government’s appointment of the new Bundesbank head should reflect that change, without politicising the process.

The simplest explanation for Germany’s changing views is a generational shift. The economists who dominated the debate in Berlin during the euro crisis have made way for a younger cohort grounded in the international mainstream rather than beholden to German economic orthodoxies. Ministry officials, think-tankers and commentators with no memory of the 1970s but plenty of scars from the post-2008 financial crisis are increasingly shaping the country’s policy discussions.

Another reason is the effect of the past decade’s economic policies. Fears of ever-mounting debt in Europe, supposedly facilitated by the ECB’s bond-buying policies, have not materialised. European debt levels as a share of GDP stabilised before the pandemic even in Italy, before rising afterwards. Germany’s public debt came down fast until 2019 and is expected to return to its pre-pandemic levels by 2024.

The fear of runaway inflation — another popular trope in the commentariat — has turned out to be almost comically wrong. Far from letting prices get out of control, the ECB failed for years to push inflation up to 2 per cent a year. When reality failed to live up to the hawks’ fears, they moved on to warn of financial stability risks, only to be disappointed again. The German public does not study these numbers in detail, of course, let alone the economics behind them. But conservatives have cried wolf a few too many times, and their influence is waning.

Crucially, businesses are making their voices heard on fiscal matters. Increasingly alarmed by Germany’s low public investment, they have called on conservative parties to ditch their balanced budget “fetish” — as Merkel’s Christian Democrats put it — and improve Germany’s fraying infrastructure, which hurts businesses. Much of the public, observing the dismal state of Germany’s digitalisation during the pandemic, increasingly shares that view.

More public investment is needed, too, in the fight against climate change, the topic at the forefront of Germans’ concerns. Now that Germany’s highest court is enforcing climate targets, there is no place left to hide for fiscal hawks. Either the next government acts by raising carbon prices and strengthening regulation — which is politically difficult, to put it mildly — or it ramps up subsidies for private investment, to help firms and households make the green transition. It is no surprise that conservatives are warming to the idea of more public support for investment.

Finally, global tensions have convinced both politicians and a large part of the German public that an economically strong and united Europe is more important than a balanced budget. The populist shocks of Donald Trump’s presidency and Brexit, added to Chinese and Russian assertiveness, require EU countries to emerge from recession strong enough to resist economic blackmail from abroad. Enforcing austerity before economies have fully recovered is now widely seen in Berlin as a mistake. And selling European infrastructure to Chinese companies — like the Greek port of Piraeus — is no longer considered a smart way to raise funds to plug fiscal holes.

There is a good chance that the incoming German government will put this new, cautious fiscal consensus into practice without making the issue politically divisive. The three parties likely to share power agree broadly on the need for investment and modernisation over the next four years. On Europe, the draft coalition agreement states that Germany should promote a strong recovery from the pandemic — on the basis of sustainable finances — and ensure climate investment is sufficiently high. Reforming Germany’s constitutional debt brake or Europe’s fiscal treaties has been excluded, but a flexible application of the rules can be expected.

The current bout of inflation, temporary though it will be, will be more challenging for the ECB. Conservative commentators will no doubt do victory laps, even though the inflation is a product of the pandemic, not the ECB bond-buying they warned about for years.

Germany needs a strong Bundesbank head willing to engage with the public on the new monetary consensus, without risking the bank’s standing as an apolitical, trusted guardian of stability. It would require taking that role out of the horse-trading of the coalition talks and settling on a modern, consensus candidate. Germany is changing in the way Germany always changes: a bit late and too cautiously, but in the right direction. The new Bundesbank president should be part of that change. 

Christian Odendahl is chief economist at the Centre for European Reform.