–Adds Comments From Institutes’ Press Conference And Econ Min Roesler

BERLIN (MNI) – Germany’s leading economic research institutes on
Thursday slashed by half their forecast for domestic GDP next year to
+1.0% from the +2.0% predicted in April.

For the current year, the institutes trimmed their growth forecast
only slightly to +0.8% from +0.9%.

“The German economy is burdened by the euro crisis,” the think
tanks noted in their joint report. “That’s why the economic expansion
will remain weak for the moment and pick up only slightly in the course
of the coming year.”

“Should the situation in the Eurozone continue to deteriorate, this
will also impact the German economy,” the institutes warned. “Over the
forecasting period as a whole the downside risks prevail, and there is a
great danger that Germany will fall into a recession.”

German Economics Minister Philipp Roesler said in a statement that
he shared the assessment of the institutes. German GDP will likely grow
only modestly for the time being and “economic risks remain large,” he
remarked. The government will present its new growth forecasts on
October 17, he announced.

In their base scenario, the think tanks expect tensions in the
Eurozone to ease gradually next year and the global economy to regain
momentum. “In a such an improved environment, favorable financing
conditions will likely have a stronger effect” on the German economy,
they reasoned.

In the second half of 2013, domestic GDP growth is seen surpassing
potential growth of slightly above 1%. On a quarterly basis, the
institutes predict for 3Q 2012 GDP growth of 0.3% q/q and stagnation in
4Q. For 2013, they expect quarterly growth of 0.2% in 1Q, 0.4% in 2Q,
and 0.5% in both 3Q and 4Q.

Still, growth will be too weak to push down unemployment rates
further, the institutes argue, forecasting annual average unemployment
to rise to 2.903 million next year from an expected 2.892 million this
year. Annual average employment is seen increasing to 41.775 million in
2013 from 41.627 million in 2012.

Inflation is expected to pick up slightly to an average 2.1% next
year from 2.0% this year. The rise in unit labor costs, however, is
forecast to slow. The think tanks project unit labor cost to grow by
2.8% in 2012 and by 1.8% in 2013.

For public finances, it is significant that the main driver of
economic expansion is currently spending, since gross wages and nominal
private consumer spending are increasing considerably, the report points
out. This has boosted state revenues strongly until recently. Moreover
fiscal policy is restrictively oriented this year.

Against this background the institutes expect the overall public
budget to post a tiny surplus of 0.1% of GDP this year and to be in
balance next year.

For the Eurozone, the institutes lowered their forecasts for
economic activity for this year to -0.5% from -0.3% and for next year to
+0.1 from +1.1%.

Eurozone annual average HICP inflation is forecast at 2.4% in 2012
and 1.8% in 2013. German HICP is projected at 2.1% and 2.2%,
respectively.

The institutes expect the ECB to cut interest rates by 25 basis
points by the end of 2012 and keep them unchanged in 2013.

For their forecasts, the institutes assumed an average euro-dollar
exchange rate of $1.30 through the end of 2013. The price of Brent crude
oil is projected at $112 per barrel this year and $111 next year.

The report observed that in late summer the central banks in the
major economies reacted to the surge in pessimism in the financial
markets and the deterioration in the economic outlook by announcing new
government bond purchases, unlimited this time in the case of the ECB
and the Fed. The mood in the financial markets initially brightened as a
result.

“However, it is questionable whether monetary policy can succeed in
reviving economic activity in this way,” the institutes caution.

The ECB’s chances of sustainably improving financing conditions for
public and private debtors in the crisis countries will largely depend
on whether economic policy can restore the confidence of financial
investors, companies and households in the reform and consolidation
efforts undertaken in the Eurozone, the think tanks insist.

“In this case fiscal policy will – as in almost all other advanced
economies – have a strong dampening effect,” they point out. “However,
it nevertheless offers the perspective that the uncertainty currently
crippling economic activity in the crisis countries will subside.”

The institutes still see no signs of a long-term economic policy
solution to the crisis. “On the contrary, risks to stability remain
high,” they warn. In the absence of another politically acceptable
solution, the ECB has intervened to limit the risk premiums for the
government bonds of crisis countries.

“The ECB’s decision could shake the main pillar of the currency
union, namely the goal of price stability,” the think tanks caution.
“Due to these conditions the ECB is no longer independent of fiscal
policy, blurring the responsibilities for individual policy areas. Yet
central bank’s independence is a key requisite for a long-term,
stability-oriented monetary policy.”

Citizens and markets alike may lose trust in the ECB’s ability to
ensure long-term price stability, the think tanks warn. “Sooner or later
inflation expectations will then be cut loose.”

In the longer term there is a “great danger” that the ECB will
continue to purchase bonds and provide excessive monetary policy
stimulation even if states deviate from the adjustment programs, which
could drive up prices and lead to an increase in inflation expectations,
the institutes argue.

At the joint press conference on presenting their report, Kai
Carstensen from the Ifo institute said the institutes continue to
believe that Greece will need a further debt restructuring. “The Greek
debt is at the current level not sustainable,” he said.

“It is impossible that Greece will be ever able to pay down its
debt,” Oliver Holtemoeller from the IWH institute added.

The forecasting report was jointly compiled for the Economics
Ministry by the Ifo institute, the ZEW institute, the IfW institute, the
IWH institute, the RWI institute and Kiel Economics. There were also two
foreign institutes participating, namely the Swiss KOF institute and the
Austrian IHS institute.

–Berlin bureau: +49-30-22 62 05 80; email: twidder@marketnews.com

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