EN Official Journal of the European Union C 70/5

COUNCIL OPINION

of 27 February 2007

on the updated stability programme of Germany, 2006-2010

(2007/C 70/02)

THE COUNCIL OF THE EUROPEAN UNION,

Having regard to the Treaty establishing the European Community,

Having regard to Council Regulation (EC) No 1466/97 of 7 July 1997 on the strengthening of the surveillance of budgetary positions and the surveillance and coordination of economic policies (1), and in particular Article 5(3) thereof,

Having regard to the recommendation of the Commission,

After consulting the Economic and Financial Committee,

HAS DELIVERED THIS OPINION:

(1) On 27 February 2007 the Council examined the updated stability programme of Germany, which covers the period 2006 to 2010.

(2) The macroeconomic scenario underlying the programme envisages that real GDP growth will temporarily slow down from 2,3 % in 2006 to 1,4 % in 2007, after which it is projected at 1 % on average over the rest of the programme period. Assessed against currently available information (the latest official estimate of GDP growth in 2006 is a figure of 2,7 %), this scenario appears to be based on plausible assumptions until 2008 and mildly favourable ones thereafter, compared with Commission projections for potential growth. The programme's projections for inflation appear to be on the high side.

(3) For 2006, the programme cites a general government deficit of 2,1 % of GDP (revised down to 1,9 % by latest government announcement), against a target of 3,3 % of GDP set in the previous update of the stability programme. The government received unexpectedly high revenues from taxes, which, in line with the Stability and Growth Pact, were not spent in 2006. The tax burden (i.e. revenues from taxes and social contributions) is now forecast to increase to around 40 % of GDP in 2006, which is about 1 % of GDP higher than projected in the previous update. General government expenditure has been kept under control in 2006. The somewhat tighter budgetary execution derives from lower monetary transfers, stemming mainly from the unexpected relief that the improving labour market has provided to the Federal Employment Agency. In addition, interest expenditure and subsidies have been lower than expected.

(4) The main goal of the medium-term budgetary strategy is to ensure the long-term sustainability of public finances. To achieve this, the programme proposes to continue budgetary consolidation, while improving the conditions for growth and employment. After the envisaged correction of the excessive deficit in 2006, the deficit ratio is projected to decline by percentage point per year (except in 2008) to reach % of GDP in 2010. The improvement in the primary balance follows the same pattern, with the surplus reaching 2 % of GDP by 2010. While the budget contains corrective measures on the revenue side, notably the increase in the central VAT rate from 16 % to 19 %, both revenue and expenditure ratios are set to follow a downward trend in a year-to-year comparison. Indeed, the expenditure ratio would fall by 2 percentage points to 43 % of GDP by 2010, which is planned to be achieved mostly through restraint in social spending. Over the same period, the revenue-to-GDP ratio is projected to decrease by 1 percentage points to 42 % of GDP by 2010; an increase in the tax share (e.g. increase in the central VAT rate in 2007) is broadly offset by a decrease in the share of social contributions (due to the cut in the unemployment insurance rate in 2007 and the downward trend of the contributions share), while non-tax revenues decline. Compared with the previous update, the budgetary targets are higher in each year although no adjustment is planned in 2008.

(5) The structural balance (i.e. the cyclically-adjusted balance net of one-off and other temporary measures), calculated according to the commonly agreed methodology, is planned to improve from a deficit of around 2 % of GDP in 2006 to % at the end of the programme period, on average by almost % of GDP per year. As in the previous update of the stability programme, the medium-term objective (MTO) for the budgetary position presented in the programme is a balanced position in structural terms, which the programme does not aim to achieve within the programme period. As the MTO is more demanding than the minimum benchmark (estimated at a deficit of around 1 % of GDP), achieving it should fulfil the aim of providing a safety margin against the occurrence of an excessive deficit. The MTO lies within the range indicated for euro-area and ERM II Member States in the Stability and Growth Pact and the code of conduct and adequately reflects the debt ratio and average potential output growth in the long term.

(6) The risks to the budgetary projections in the programme appear broadly balanced for 2007, but budgetary outcomes thereafter could be worse than projected. In particular, the risk remains that the envisaged decline in the social expenditure ratio would not be achieved without additional measures that are not specified in the programme. Indeed, the update itself states that further reforms are needed on the labour market and in the social security systems. In addition, a certain risk stems from the planned company tax reform in 2008. Thus, it might prove necessary to compensate possible shortfalls in company tax revenues through additional expenditure restraint. Abstracting from that reform, the revenue projections seem prudent. Nevertheless, overall, negative risks to the budgetary adjustment remain, in particular from the implementation of the adjustment path in the outer years.

(7) In view of this risk assessment, the budgetary stance in the programme is consistent with a correction of the excessive deficit by 2006, one year ahead of the deadline set by the Council. In addition, it seems to provide a sufficient safety margin against breaching the 3 % of GDP deficit threshold with normal macroeconomic fluctuations as from 2007, although subject to some risks for 2008. In the years following the correction of the excessive deficit, the pace of the adjustment towards the MTO implied by the programme should be strengthened, especially in 2008, to be in line with the Stability and Growth Pact, which specifies that, for euro-area and ERM II Member States, the annual improvement in the structural balance should be 0,5 % of GDP as a benchmark and that the adjustment should be higher in ‘good ’economic times and could be lower in ‘bad ’economic times. In particular, no improvement in the structural balance is planned for 2008, at a time when economic ‘good times ’are expected to prevail. Meeting the required structural adjustment path would actually allow the MTO to be reached by the programme horizon.

(8) Government gross debt is estimated to have levelled off at 67,9 % of GDP in 2006, above the 60 % of GDP Treaty reference value. The programme projects the debt ratio to decline by 3 percentage points over the programme period. The evolution of the debt ratio may turn out to be less favourable than projected in the programme given the risks to the deficit targets and uncertainty about the debt-reducing stock-flow adjustments assumed in the programme. In view of this risk assessment, the debt ratio may not be sufficiently diminishing towards the reference value over the programme period.

(9) The long-term budgetary impact of ageing in Germany is close to the EU average, though with pension expenditure showing a somewhat smaller increase than in many other countries, as a result of the pension reforms already enacted. A draft law has been adopted to raise the statutory retirement age in steps to 67 years, from 2012 onwards. Although exemptions to the higher age limit are being granted, the move will enhance the long-term sustainability of public finances. In addition, developing further private pension arrangements would contribute positively to retirement incomes. The initial budgetary position constitutes a risk to sustainable public finances even before the long-term budgetary impact of ageing populations is considered. Moreover, the current level of gross debt is above the Treaty reference value. Overall, Germany appears to be at medium risk with regard to the sustainability of public finances.

(10) The stability programme does not contain a qualitative assessment of the overall impact of the October 2006 implementation report of the National Reform Programme within the medium-term fiscal strategy. In addition, it provides no systematic information on the direct budgetary costs or savings of the main reforms envisaged in the National Reform Programme and its budgetary projections do not explicitly take into account the public finance implications of the actions outlined in the National Reform Programme. The measures in the area of public finances that are mentioned in the stability programme seem consistent with those foreseen in the national reform programme. In particular, the company tax reform 2008 and the health care reform are put forward in both programmes. Moreover, both programmes envisage, as the second stage of the reform of the federal system, a review of the fiscal relations between levels of government in order to strengthen the accountability of each level. In addition, the stability programme recognises in this context the necessity to develop an institutional framework that would ensure budgetary discipline at all levels of government and foresee measures to pre-empt emerging budgetary crises.

(11) The envisaged measures in the area of public finances are broadly consistent with the broad economic policy guidelines included in the integrated guidelines for the period 2005-2008.

(12) As regards the data requirements specified in the code of conduct for stability and convergence programmes, the programme has some gaps in the required and optional data. (2)

Overall, the Council deems the updated programme consistent with a correction of the excessive deficit as of 2006, one year before the deadline set by the Council, and some progress towards the medium term objective will be made in the subsequent years. However, there are risks linked to the achievement of the budgetary targets.

In view of the above assessment, the Council invites Germany to:

(i) Benefiting from economic ‘good times’, strengthen the structural adjustment in 2008 including by using any extra revenues for deficit reduction, continue the fiscal consolidation towards the medium-term objective thereafter, by maintaining tight control over expenditures, while ensuring that the announced reform of the corporate tax system does not jeopardise the fiscal consolidation;

(ii) In view of the level of debt and the projected increase in age-related spending, improve long-term sustainability of public finances by achieving the MTO and by implementing reforms, particularly in the health care system;

(iii) Improve the budgetary framework so as to strengthen fiscal discipline at all levels of government, notably by implementing the plans for the second stage of the reform of the federal system.

Comparison of key macroeconomic and budgetary projections

2005 2006 2007 2008 2009 2010 Real GDP (% change) SP Nov 2006 0,9 2,3 1,4 1 1 1 COM Nov 2006 0,9 2,4 1,4 2,0 — — SP Feb 2006 0,9 1 1 1 1 — HICP inflation (%) SP Nov 2006 — — — — — — COM Nov 2006 1,9 1,8 2,2 1,2 — — SP Feb 2006 — — — — — — Output gap (% of potential GDP) SP Nov 2006 (3) – 1,2 – 0,3 – 0,3 – 0,2 0,0 0,0 COM Nov 2006 (7) – 1,3 – 0,2 – 0,4 0,1 — — SP Feb 2006 (3) – 0,9 – 0,7 – 1,1 – 0,7 – 0,4 — General government balance (% of GDP) SP Nov 2006 – 3,2 – 2,1 – 1 – 1 – 1 – COM Nov 2006 – 3,2 – 2,3 – 1,6 – 1,2 — — SP Feb 2006 – 3,3 – 3,3 – 2 – 2 – 1 — Primary balance (% of GDP) SP Nov 2006 – 0,5 1 1 1 2 COM Nov 2006 – 0,5 0,4 1,1 1,5 — — SP Feb 2006 – 0,5 – 1 1 — Cyclically-adjusted balance (% of GDP) SP Nov 2006 (3) – 2,6 – 2,0 – 1,5 – 1,5 – 1,0 – 0,6 COM Nov 2006 – 2,6 – 2,2 – 1,4 – 1,2 — — SP Feb 2006 (3) – 2,9 – 2,9 – 1,8 – 1,5 – 1,1 — Structural balance (4) (% of GDP) SP Nov 2006 (5) – 2,7 – 2,0 – 1,5 – 1,5 – 1,0 – 0,6 COM Nov 2006 (6) – 2,7 – 2,2 – 1,4 – 1,2 — — SP Feb 2006 – 3,0 – 2,9 – 1,8 – 1,5 – 1,1 — Government gross debt (% of GDP) SP Nov 2006 67,9 67,9 67 66 65 64 COM Nov 2006 67,9 67,8 67,7 67,3 — — SP Feb 2006 67 69 68 68 67 — Source: Stability programme (SP); Commission services' autumn 2006 economic forecasts (COM); Commission services' calculations

(1) OJ L 209, 2.8.1997, p. 1. Regulation as amended by Regulation (EC) No 1055/2005 (OJ L 174, 7.7.2005, p. 1). The documents referred to in this text can be found at the following website:

http://europa.eu.int/comm/economy_finance/about/activities/sgp/main_en.htm

(2) In particular, data on HICP inflation, total social transfers and the stock-flow adjustment are not provided in the programme, as well as compensation of employees and the break-down of tax revenues, which were provided separately to the Commission.

(3) Commission services calculations on the basis of the information in the programme.

(4) Cyclically-adjusted balance (as in the previous rows) excluding one-off and other temporary measures.

(5) One-off and other temporary measures taken from the programme (deficit-increasing 0.1% of GDP in 2005).

(6) One-off and other temporary measures taken from the Commission services' autumn 2005 forecast (deficit-increasing 0.1% of GDP in 2005).

(7) Based on estimated potential growth of 1.2%, 1.3%, 1.4% and 1.4% respectively in the period 2005-2008.

Source:

Stability programme (SP); Commission services' autumn 2006 economic forecasts (COM); Commission services' calculations