VZCZCXRO5605
PP RUEHAG RUEHDF RUEHIK RUEHLZ
DE RUEHRL #1950/01 1921541
ZNR UUUUU ZZH
P 111541Z JUL 06
FM AMEMBASSY BERLIN
TO RUEHC/SECSTATE WASHDC PRIORITY 4159
INFO RUEATRS/DEPT OF TREASURY WASH DC
RUCPDOC/USDOC WASHDC
RUEHC/DEPT OF LABOR WASHDC
RUCNMEM/EU MEMBER STATES
RUCNFRG/FRG COLLECTIVE

UNCLAS SECTION 01 OF 02 BERLIN 001950 
 
SIPDIS 
 
SENSITIVE BUT UNCLASSIFIED 
 
SIPDIS 
 
DEPT OF LABOR FOR ILAB - BILL BRUMFIELD 
STATE FOR EB, EUR/AGS, AND EUR/RPE 
 
E.O. 12958: N/A 
TAGS: ECON EFIN ELAB PREL GM
SUBJECT: Snapshot of German Economy - Growth Remains Modest 
 
 
SENSITIVE BUT UNCLASSIFIED.  NOT FOR INTERNET DISTRIBUTION. 
 
¶1.  (SBU) Summary:  Germany remains on track for a mild economic 
revival this year, with 0.4% GDP growth in the first quarter of 2006 
and expectations of 1.8% for the year as a whole.  Recent 
unemployment figures were better than expected after the 
disappointing start earlier in the year.  Business confidence 
indexes remain strong, and first-quarter growth, unlike in past 
quarters, saw a significant boost due to increased investment in 
capital goods, as opposed to just exports.  However, the coalition's 
recently agreed health reform plans seem likely to raise 
payroll-based contributions to the state health system, thereby 
missing the key reform goal of bringing down non-wage labor costs. 
In late June, business leaders complained to the Chancellor and 
other ministers that the pace of reform was too slow.  Business 
leaders have also noted that strong performance overseas does not 
mean leading German firms are doing well in markets at home.  End 
Summary. 
 
MIXED PICTURE 
 
¶2.  (U) After a stagnant final quarter of 2005, Germany's economy 
saw modest growth in the first quarter of 2006, with 0.4% growth 
(seasonally, calendar and price adjusted), slightly below the 
expected 0.5%.  Strong export-sector performance helped stimulate 
increased confidence among consumers and those planning domestic 
plant investments.  German manufactured goods exports rose 4.5% in 
the first quarter over the record numbers Germany saw last year.  On 
the domestic side, capital goods investment was up 2.2% and 
accounted for a significant portion of the rise in GDP.  Producers 
of capital and intermediary goods, especially the machine tool and 
chemical industries, enjoyed a backlog of orders as firms worldwide 
looked to expanding their production capacities.  Private household 
consumption improved somewhat rising 0.6% in the first quarter after 
stagnating in 2005. 
 
¶3.  (U) The FIFA Soccer Word Cup too seems to have had a positive 
effect on certain industries with increased sales in consumer 
electronics, merchandise, and travel.  However, a real turnaround 
for the chronically weak German retail sector remained elusive, even 
with longer shopping hours - including on Sunday - for the duration 
of the tournament.  In the face of continued high unemployment and 
stagnant wage growth, the World Cup did, however, create an 
estimated 50,000 to 60,000 temporary jobs.  A more lasting effect 
may be a boost in tourism to Germany, a sector that already employs 
more than 2.8 million, due to the positive coverage generated by the 
event. 
 
¶4.  (U) Business confidence indicators are again positive, 
recovering in June after the drop some saw in May.  The IfO Index, 
based on a poll of 7000 companies, fell in May for the first time in 
twelve months as business people's outlook for the coming six months 
slightly clouded.  Business analysts were therefore surprised when 
in June renewed optimism about the current situation and the 
business outlook pushed the index to a 15-year high.  The ZEW 
Indicator of Economic Sentiment too fell 12.2 points for May, 
finishing only slightly above its historical average at 37.8 points. 
 Analysts cite uncertainty about further interest rate hikes (after 
the European Central Bank announced a rate increase of 0.25 basis 
points to 2.75% June 8), high oil prices, and slower global growth 
as causes for concerns for German business leaders. 
 
JOB FIGURES -- THE FOCUS FOR GERMAN POLITICIANS AND REPORTERS 
 
¶5.  (U) The number of unemployed in the total German workforce 
remained high at 4.7 million during the first quarter; the 
unemployment rate was 11.3 percent in January-February and 11.4 
percent in March (all figures seasonally adjusted).  The colder than 
usual winter delayed seasonal improvement until the second quarter, 
but then the figures were better than expected: in April 4.691 
million unemployed (11.3 percent), in May 4.596 million (11.0 
percent), and in June 4.542 million (10.9 percent). 
 
¶6.  (U) Surveys indicate most German firms plan to keep their 
workforce at current levels, although the wholesale sector plans a 
slight increase in hires.  In addition, wages remained stagnant in 
the first quarter (year-on-year), after falling 0.6% during the four 
preceding quarters, according to Economic Ministry officials.  They 
expect projected inflation of 1.3% to offset a net 1.4% rise in 
¶2006. 
 
¶7.  (U) In spite of continued wage stagnation, big-ticket purchases 
in advance of the January 1 VAT increase will likely boost 
consumption figures.  The Bundesbank expects these advance purchases 
 
BERLIN 00001950  002 OF 002 
 
 
to add 0.25% to GDP growth this year.  Economic Ministry officials 
expect the effect of the VAT hike to shave off a solid 1% of next 
year's growth, which could thereby stifle the domestic recovery. 
Finance Minister Steinbrueck called the VAT hike the "least bad of 
the options available to the Federal government" to help cover 
pension costs and help get the deficit to GDP ratio below the three 
percent Maastricht ceiling for the first time in five years. 
 
Impatience OVER THE PACE OF Reforms 
 
¶8.  (SBU) While Chancellor Merkel can take much of the credit for 
Germans' increased optimism, businesspeople have begun criticizing 
the lack of progress on economic reforms the CDU/CSU-SPD Grand 
Coalition promised when it took office in November.  Business 
leaders in the Federation of German Industry (BDI), Germany's 
leading business association, reportedly told Merkel and other 
ministers June 21 that their patience with the lack of progress on 
reforms was exhausted.  BDI recently said in a statement that 
"doubts about the problem-solving ability of this government are 
growing."  German business leaders have also emphasized in the 
meetings with Embassy officials that, although they are doing well 
in world markets, the situation at home remains difficult. 
 
¶9.  (SBU) For example, on the health reform plans the coalition 
agreed upon in early July, the parties openly squabbled about how 
best to move financing for the system away from payroll-based 
contributions and thereby reduce non-wage labor costs.  The SPD 
proposed large income tax increases to shore up the system's 
financing while avoiding benefit cuts.  But when Merkel indicated 
she might accept these tax increases, some state-level CDU leaders 
rebelled.  The end result is a watered-down reform the government 
will send to the legislature that actually increases non-wage labor 
costs and postpones dealing with the long-term future of the health 
care system. 
TIMKEN JR.