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The economic situation is changing rapidly for the worse. The German economy – long the engine of eurozone growth – is undeniably sputtering. Powerful underlying currents are contributing to the slowdown. As a result, there is a high probability of a typical German recession (in terms of depth and duration), if not worse.
The main headwind, of course, is the uncertainty emanating from the highly contentious global trade environment. [...]Rising global trade tensions will hit Europe both ways: indirectly – through the China channel – and directly, for example through announced US tariffs, following the recent World Trade Organization ruling regarding state aid to European aerospace group Airbus.[...]
Gone are the good – or, for some, bad – old days of multilateral trade agreements. Today, tariff and non-tariff barriers are in vogue again, partly because large bilateral trade imbalances, beyond a certain level, inevitably seem to trigger a reflex among some policymakers to shield domestic markets for the benefit of home producers and their employees (often regionally concentrated). Trade, not unlike technological disruption, has redistributive consequences which policymakers ignore at their own peril, and therefore implies a need for adjustment and structural change.
Hence, Germany’s persistently large current-account surpluses, long more than 6% of GDP, are causing increasing tensions with other “over-importing” countries, notably the United States, which must run commensurately large, offsetting current-account deficits.
Given the high risk of recession in Germany, the seemingly obvious response would be to use both fiscal and monetary policy – the two macroeconomic “handmaidens,” as the US economist Arthur Okun described them – and account for the impact of both.
Fiscal and monetary policy inevitably interact to influence economic activity in what the economist James Tobin called the “common funnel.” The economic policy debate in the eurozone often ignores this interaction. Acknowledging it, however, would leave critics much less room for ECB-bashing. [...]