\"In their retrospective account of the German fiscal consolidation, Fels and Fr
ID: 2816648 • Letter: #
Question
"In their retrospective account of the German fiscal consolidation, Fels and Froehlich (1986, pp.184-85) summarize this anti-Keynesian view: Fiscal consolidation had a benign impact on expectations. .. [An] important explanation is the way fiscal consolidation was actually brought about. Rather than raising taxes, the deficit was reduced by keeping a lid on expenditure growth . . . By absorbing a smaller share of GNP, the public sector made room for the private sector to expand." Do you agree or not? If yes or NO. Give your own take back it with theoretical argument, literature review and references.
Explanation / Answer
YES I AGREE WITH GERMAN FISCAL CONSOLIDATION AS PER THE GOVT. CHANGE POLICY TO TAX POLICY AS PER DETAIL:
Germany
1. Economic situation
The German economy contracted by 4.9% in 2009 as export orders fell sharply in response to the global economic slowdown (Figure 1A). Germany balanced its budget in the two years prior to the economic crisis, but the fiscal balance quickly became negative as stimulus measures were adopted in response to the recession and automatic stabilizers played their role. Germany’s budget deficit measured 3.0% of GDP in 2009 (Figure 1B).
Gross debt has increased only moderately in recent years to account for 76.5% of GDP in 2009, benefiting from a relatively conservative fiscal stance in the years leading up to the crisis (Figure 1C).
The economy is recovering on the back of business investment, strong export growth, and a robust and flexible labour market. The OECD projects that the pre-crisis real GDP level will be reached during 2011.
2. The government’s fiscal consolidation strategy
Germany plans to reduce its budget deficit to below 3% of GDP by 2012 at the latest. The government has also announced its intent to reduce the structural deficit by 0.5% annually from 2011 onwards. Longer term fiscal consolidation will also benefit from implementation of a new fiscal rule anchored in Germany’s constitution. Starting in 2011, the new budget rule (the debt-brake) will limit the federal government’s structural deficit. During this transition, the federal government’s structural deficit will be reduced stepwise from 1.9% of GDP in 2011 to a maximum of 0.35% of GDP from 2016 onwards. In addition, German states (Länder) will be required to balance their budgets in structural terms from 2020 onwards. Lower levels of government will therefore contribute substantially to the longer-term consolidation efforts under way in Germany.
In June 2010, the government announced plans for an ambitious consolidation programme beginning in 2011 that will help Germany meet its structural deficit target over the medium term. In addition to phasing out temporary fiscal stimulus measures, Germany announced a EUR 80 billion consolidation programme (3% of GDP) to be implemented over the four-year period beginning in 2011 (Figure 2C). Two-thirds of the measures are expenditure-based cuts (Figure 2D).
Germany’s 2011 federal budget and accompanying 2011-14 fiscal plan also support this path, setting out an eight-point plan focusing on prioritising education, creating prospects for higher growth and employment, and assuring solid public finances. The government forecasts that Germany’s deficit of 3.7% of GDP in 2010 would narrow to less than 1.5% of GDP by 2014 as the consolidation measures are implemented (Figure 2A). Gross debt is projected to be stable over the medium term, reaching a high of 80.5% in 2012
3. Major consolidation measures
The largest consolidation measure on the expenditure side is the reduction of social security and unemployment benefits including the readjustment of parental and housing benefits. Savings from these measures will amount to 1.13% of GDP in 2011-14. Up to 10 000 staffing positions will be permanently abolished by 2014.
On the revenue side, the government has announced a number of new taxes including a nuclear fuel tax and a bank tax. Particularly, the financial transaction tax (FTT) will be implemented for an appropriate involvement of financial markets to finance the cost of economic crises. The tax will bring additional EUR 6 billion (0.21% of GDP) by 2014. Over the same period, reducing energy tax exemptions and introducing an airline travel tax will increase revenues by 0.19% of GDP.
Pension reform
In 2007 Germany announced that the statutory retirement age would increase gradually from 65 to 67, to be phased in over the period 2012-29.
4. Institutional reforms
Germany implements the new fiscal rule referred to as the “debt-brake” with the 2011 federal budget, starting with a transition period. Anchored in the Constitution, the new budget rule limits the federal government structural deficit to 0.35% of GDP from 2016, while the states (Länder) must balance their budgets in structural terms from 2020.
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