RWI raised its economic growth forecasts for 2011 in comparison with December 2010 from 2.5% to 2.9%; growth of 2.4% is anticipated for 2012. Whereas the economy apparently got a good start in the new year, growth in production will probably level off slightly in the course of the year, with both impetus from foreign trade and domestic demand slowing down somewhat. Inflation, which continues to rise, is also likely to have a dampening effect. The situation on the employment market is nevertheless likely to improve. The same applies to public sector finances, so that financial policymakers are advised to continue efforts toward consolidating their budgets.

The German economy is experiencing a vigorous upswing. At a rate of 3.6%, the gross domestic product (GDB) grew more last year than during any year since German reunification. Substantial impetus came from outside the country, as global trade returned to normal following the dramatic decline seen in 2009. This impetus carried over to domestic demand. As sales prospects improved, companies became increasingly inclined to invest, while the favorable outlook for the employment market encouraged consumer spending. All these effects were bolstered by the interest rate, which reached a record low. The latter was an additional factor in the strong increase of investments in residential construction.

In many cases, however, activity has not returned to the level seen at the onset of the financial crisis. Considering these developments, the employment market is surprisingly sound: the number of individuals in employment has already surpassed by 300,000 the record high prior to the financial crisis, while the number registered as unemployed has fallen to the lowest level since 1992. The current upswing is clouded by rising prices: inflation reached a level of 2.0% in February, largely accounted for by climbing commodity prices. Yet, a rise in core inflation – i.e., consumer prices excluding food and energy prices – can also be seen in the meantime. While the European Central Bank’s (ECB) low interest rates are currently supporting the upswing, by the same token, its expansive monetary policy is fuelling inflation.

Employment market will further improve amid continuously rising inflation

A number of indicators suggest that the economy got a good start in the new year. As the year progresses, RWI is expecting production to increase at a healthy rate, though losing momentum slightly. Foreign trade partners will provide an initially substantial, and later waning, impetus, with domestic demand also slowing. Capital investments should return to a normal level as companies go forward with investments that were postponed due to the financial crisis. The economic conditions are highly favorable for residential construction activities, which, in particular, will expand considerably. Private consumption expenditures are also expected to increase at a rate substantially higher than the average seen during the past decade. In view of these developments, RWI is expecting the GDP to increase by 2.9% this year and by 2.4% the next.

The situation on the job market will probably continue to improve. The number of persons in employment is forecast to increase by an average of 500,000 in 2011 and by the same number again in 2012. The unemployment rate could consequently fall well below the 6% mark. Companies will, as a result, find it increasingly difficult to recruit qualified employees, so that actual earnings and thus unit labor costs are likely to increase.

Climbing prices will additionally have a dampening effect. With commodity prices initially driving inflation, local governments are also likely to further raise municipal fees and taxes due to pressure on public finances. Assuming that crude oil remains constant, energy prices should contribute increasingly less to inflation as the forecast period progresses. Core inflation, in contrast, will probably increase as production capacities are increasingly utilized. RWI forecasts an inflation rate of 2.5% this year and 2.4% next year.

A good opportunity to consolidate public budgets

The condition of public budgets is also likely to improve considerably. The deficit rate is expected to drop to 1.8% in 2011 and 0.6% in 2012. Conditions are favorable for financial policymakers to further efforts toward consolidating public finances and to ensure compliance with the brake on spending, which goes into effect in 2016.

Monetary policy is facing a difficult situation. The ECB aligns its actions with conditions in the eurozone as a whole, where economies are growing at highly diverging rates. This circumstance is aggravated by the fact that the refinancing terms for the banking sector, while having improved somewhat, still have not returned to a normal level. RWI expects a base interest rate of 2.5% by the end of the forecast period. The European Stability Mechanism (ESM) will confront economic policymakers with a major challenge in the future. The facility is to be restructured, with the aim of increasing the responsibility of individual EMU member states for their public finances as well as to enhance incentives toward prudent budgeting. Aid is to be extended only if a country is basically solvent. Otherwise, insolvency proceedings, required to be supervised by the ESM, will have to be initiated in order to avoid an incalculable risk of insolvency.

World economy – highly differing regional growth rates

The final months of 2010 saw the global economy grow with renewed vigor. Yet substantial disparity among individual regions continues to exist. Whereas in most emerging countries overall economic production is expanding at such an intense pace that spotty signs of overheating may be recognized, the more advanced national economies (i.e. in the eurozone, the UK, the US and Japan) on the whole displayed moderate growth, yet to highly varying degrees. The recovery has been hesitant at best in countries that experienced a bursting real estate bubble or major difficulties in the financial sector. Here in many cases government debt has been increasing at a rate just short of dramatic, so that economic growth is frequently hampered by broad-based budget consolidation programs.

With the global economy expanding vigorously, the demand for commodities has increased and led to higher prices. The crude oil price has risen, most recently largely as a result of new threats to oil supplies. The inflation rate increased worldwide in the course of last year. Among advanced national economies, the increase in commodity prices has to date largely accounted for this trend, with tax hikes additionally contributing in certain countries. Core inflation, in contrast, has remained low. The expansionary monetary policy has resulted in a build-up of excess liquidity, however, and there are concerns of rising inflation if monetary policy is not reined in quickly enough. Central banks can thus be expected to substantially raise base interest rates during the forecast period. Many central banks in the emerging nations have already made the move to a more restrictive monetary policy in response to growing pressure from inflation.

Financial policy is also likely to follow a restrictive course in 2011, and even more so in 2012. During the recent recession, many countries piled up considerable public debt and now urgently need to consolidate finances. Many nations have already introduced measures, while others, such as the US and Japan, have announced similar action, though the extent to which the plans will be implemented remains unclear.

Moderate but relatively stable growth on through 2012

Based on this scenario, moderate but relatively stable growth should be typical for the forecast period. The recovery will continue among the advanced national economies, while domestic growth drivers will gradually play a greater role. Investment activities will probably return to a normal level, considering that steps to modernize infrastructure were postponed due to the crisis. Consumer trust in the economy should also be restored as unemployment levels will drop in most cases. Growth among emerging economies will probably slow down somewhat, since economic policy and rising food prices are in general likely to have more of a dampening effect in such countries.

In summary, RWI expects the gross world product (as calculated in dollars) to increase by at least 3% during both years. Under these conditions, world trade will expand by an estimated 7.5% in 2011 and by 7% the following year.

Growing risks

However, the risks threatening the recovery have increased. The public debt crisis gripping several countries in the eurozone has not yet been resolved. This fact might have negative repercussions for the German economy. In addition, oil supplies have become uncertain. Long-term disruptions would hamper global economic growth and concurrently the expansion of the German economy. Finally, the threat to stable price levels has become greater: rising commodity prices, fuelled by the ECB’s expansionary monetary policy, could easily trigger subsequent effects in a country with sound economic growth.

(published in „RWI Konjunkturberichte“, Heft 1/2011, available only in German)

For further information, please contact:
Prof. Dr. Roland Döhrn, Tel.: +49 81 49-262, email
Sabine Weiler (RWI Press Office), Tel.: +49 81 49-213, email

Key Data of the Forecast from March 2011
2010 to 2012

Own calculations according to information from the Federal Statistical Office, the Deutschen Bundesbank and the Federal Labor Office. - ¹Adjusted for price changes. - ²Domestic. - ³National concept. - ⁴Relating to employed persons in Germany. - ⁵Compensation of employees per employee in relation to GDP per employed person. -  ⁶In the definition of balance of payments statistics. - ^POwn forecast.

Key Data of the International Forecast
2010 to 2012; change in comparison to previous year in %

Own calculations, based on information from the OECD, IWF, Eurostat and national statistical offices. - ¹Real. -²Goods, in prices and exchange rates from 2005. - ³Annual average.- ^pOwn forecast.- ^SPartly estimated.