Germany’s energy package: Stoking or quenching the fire?

Finding itself in the eye of the storm of Europe’s energy crisis, Germany’s sizable support packages (amounting of up to EUR 295bn - 7.7% of GDP) have drawn the ire of other EU countries lacking the same fiscal firepower and fearing distortions within the EU’s internal market. Most of the measures under the third help package (EUR 65bn for one-off payments to students and pensioners, increased welfare payments and an electricity price brake among others) and the ‘Comprehensive Protection Shield’ (up to EUR 200bn) will only begin to support the economy in 2023 in our view. Funds from the protection shield are earmarked primarily for a gas price brake (likely to take effect from March 2023, see details next page), while measures from the third help package remain in limbo amid financing disagreements between the central government and the states.

The government plans to raise the funds for the protection shield through a ‘shadow budget’ (Economic Stabilisation Fund - WSF), which circumvents the debt brake. The government’s ‘creative accounting’ allows it to comply with the debt brake in the 2023 budget, with the aim of ensuring that “that German federal bonds will continue to meet with the highest level of confidence on financial markets". We think the German government will be in no rush and raise the funds on an ongoing basis, as the cost becomes more apparent. Overall, the German ‘off-balance’ borrowing scheme is also in line with a general EU trend towards increased issuance via national agencies and/or supras, to protect national government bond markets.

We see a high likelihood that not all of the EUR 200bn earmarked funds will be used/raised. This was also the case with the earlier pandemic EUR 600bn support package financed through the WSF, of which only some EUR 50bn were used. A first proposal puts the cost of a gas price brake at ca. EUR 91bn until 2024. The electricity price brake might cost another EUR 25bn/year if the government aims to return prices to 2021 levels, although plans foresee this largely financed though ‘windfall profit taxes’. Overall, we think the earmarked funds should suffice to finance the energy price caps at least until 2024, but the cost will also depend on how market prices develop.

We doubt that the energy price caps can prevent the economy falling into recession. Higher energy costs will still take their toll on industrial activity and aggregate demand. The downturn is likely to be shallower than without the support measures, decreasing especially the risk of bankruptcy waves and an ensuing labour market crisis. However, with diminished incentives for energy savings, the risk of gas rationing still looms large later this winter, affecting especially energy intensive sectors like the chemical industry.

The inflationary effects are somewhat ambiguous in our view. Although the price caps limit the increase in energy inflation (see also Euro inflation notes - Energy variations, 10 October), we also see a risk that high core inflation pressures will continue to remain a feature for some time due to second round effects and firms protecting their margins. Heterogeneous country measures to deal with the energy crisis risk increasing the outcome span for inflation next year and diverging inflation trends between euro area countries will further complicate the ECB’s job in calibrating the right monetary policy stance, increasing the risk of policy mistakes.

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