Looming recession and negative yields, it was about time some people would bring two and two together. Much of European yields are in negative territory, meaning that European governments can get paid to borrow.
At the same time, much of Europe is teetering on the brink of recession, so here is a big opportunity to be fairly bold embarking on productive investments which could bolster demand as well as improve the supply side of the economy.
Add to this that monetary policy is as good as exhausted and the case becomes even more compelling. Should there be worries about the sustainability of public finances? Well, here are the public finances of Germany:
And here those from the Netherlands:
We will spare you graphs of these countries near obscene trade surpluses (7.3% of GDP for Germany and a whopping 10.8% of GDP for the Netherlands), which is even starker evidence of these countries saving way too much.
There are really lots of reasons for these countries to embark on a really big stimulus:
- Germany in particular has a quite dilapidated infrastructure (according to, amongst others, the well respected German economist Marcel Fratzscher, head of the Deutsche Institut für Wirtschaftsforschung, in his book "Die Deutschland-Illusion.") and is investing way too little.
- The way the eurozone works is that it puts all the adjustment pressure on deficit countries, nothing on the surplus countries which leads to a deflationary bias for the eurozone as a whole.
- Germany and the Netherlands, through their eurozone membership, benefit from an artificially low exchange rate (which blew up both countries' trade balances).
- Monetary policy has been exhausted
There is of course some stuff that Germany does eminently well, like productivity per hour, mostly driven by the high skill level of the workforce (coming mostly from their apprenticeship system).
But it seriously risks falling behind in the digital technologies and AI, which are basically changing everything. The German car industry, one of the big drivers of the economy, is buffeted by the diesel scandal and backlash and the surprisingly rapid move to EV.
EVs are much simpler to build, last longer, require much less maintenance and hence are much less profitable for car manufacturers and it remains to be seen how competitive German car manufacturers can be against the US and Chinese competition.
While the Dutch economy is still purring along, the German economy is already faltering in a fairly comprehensive way:
And business confidence is cratering:
That is, Germany has both the means and the motive to do something and this something can be big, from Bloomberg:
Chancellor Angela Merkel’s government is considering measures to bolster domestic output and consumer spending to prevent large-scale unemployment, according to people familiar with the matter, and Finance Minister Olaf Scholz has said the government can muster 50 billion euros again if needed.
The 50B euro is comparable to the stimulus package of 2009, and there are reasons to believe that was quite successful. It was twice as large as the French stimulus at the time, and
What is clear though is that the package was relatively large -- compared with 26 billion euros in France, for example -- and the upturn was fast. Germany took three years to make up the ground lost during the recession, less than half the time needed by the euro area as a whole. At the height of the crisis, the government stepped in to help companies pay wages, allowing them to hold on to workers for when demand picked up again. Thanks to that “short-work” initiative, 330,000 jobs were saved in 2009 alone.
It was notable that there was only a very slight bump in the German unemployment rate during the financial crisis, the graph below (from Tradingeconomics) is pretty remarkable:
This puts the German 2009 stimulus almost in the same category as the Chinese stimulus at the time. China was highly dependent on export growth (much more so than today, now its domestic economy is much more developed) and was greatly affected by the financial crisis and plunge in world trade, but the country managed to stave off the negative effects with a very large stimulus package.
The EU itself is toying with the idea of a 100B euro future fund, which seems mostly directed to equity participations in order to create European champions that can withstand global competition in strategically important sectors (digital, AI, etc.).
The Dutch also seem to move to put in place a fund with up to 50B(!) euro, which would really be very substantial given the size of their economy, although the booming Dutch economy is plagued by labor shortages at the moment but the fund is meant for when things get rougher and if they do, labor shortages will be less of a problem.
So in summary it seems that Germany, the Netherlands and the EU as a whole are preparing significant stimulus funds. Past German (and Chinese) experience shows that these can be successful in smoothing out an economic storm.
Where to invest
Here are some suggestions:
- Green economy
- Digitalizing the public sector
- Smart cities
- Science and development
Germans might be a bit apprehensive about investing in the green economy, given that the result of their 'Energiewende' (a program centering on feed-in tariff subsidies for solar energy in the 2000s) was a distinctly mixed bag.
It was successful in terms of creating a market for solar panels (which allowed mostly Chinese suppliers to reap the economies of scale and learning), bringing down its cost rapidly.
However, the subsidies were overly generous and long-lasting, and has put significant upward pressure on German electricity prices. The risk of that this time around is basically zero as alternative energy has caught up with other energy sources and can compete on price (Forbes):
The cost of renewable energy has tumbled even further over the past year, to the point where almost every source of green energy can now compete on cost with oil, coal and gas-fired power plants, according to new data released today... The most attractive renewable energy sources, from a cost perspective, are onshore wind and solar PV. IRENA says onshore wind costs of $0.03-0.04/kWh are now possible in places with good natural resources and the right regulatory and institutional frameworks. It also points out that new solar PV projects in countries such as Chile, Mexico, Peru, Saudi Arabia and the UAE have seen a levelized cost of electricity of as low as $0.03/kWh – helped by the fact that governments have been holding competitive bidding processes when launching contracts to develop new power plants.
Investing in basic research might have the biggest returns by far. Much of the post-war US economic boom can be traced to public sector financed research. Here is Fareed Zakaria (from Newsweek):
Over the past five decades it has led to the development of the Internet, lasers, global positioning satellites, magnetic resonance imaging, DNA sequencing, and hundreds of other technologies. Even when government was not the inventor, it was often the facilitator. One example: semiconductors. As a study by the Breakthrough Institute notes, after the microchip was invented in 1958 by an engineer at Texas Instruments, "the federal government bought virtually every microchip firms could produce."
That well is drying up in the US, unfortunately (we'll have a little more to say about that soon), but that doesn't mean others can't pursue the same objectives (the Chinese have embarked on this with considerable gusto, for starters).
Bond yields of developed countries have been falling for decades:
- Increased savings as a result of demographics
- Reduced CapEx as a result of demographics and a shift to ICT and digital.
- Rising inequality shifting income to people with a much higher propensity to save.
That is, at a global level there is increased savings and reduced demand for capital goods, producing a global savings glut and a trend decline in real interest rates.
Now that much of the nominal interest rates in the developed world carry negative yields it would actually be costly not to activate funds, especially for those countries having budget surpluses.
Countries which have an 7-10%+ surplus on their current accounts save way too much and invest way too little, it's as simple as that. Add in budget surpluses and negative yields, and plenty of possible investments generating high returns, and the case for a massive public investment effort becomes irrefutable.
It could soften the blow from global trade and manufacturing and releases some of the unequal burden of adjustment which are weighing down some of the eurozone deficit countries; so what's not to like?
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