Exclusive interview: Torsten Arnswald, Head of the Fiscal Policy Division, Federal Ministry of Finance, Germany

By on 26/06/2017
Thorsten argues stability in macro-economic policies, together with the social market model, forms the underlying fundamentals of Germany's economic strength.

Germany’s economic success makes the country envied, admired and resented in pretty much equal measure – particularly whilst so many nations are struggling with low growth and high debts. Its civil service fiscal policy chief, Torsten Arnswald, tells Matt Ross that tough decisions are required to bring the global economy back into balance

These are strange and turbulent times. In countries as diverse as Brazil, the UK, the USA, France and Italy, civil servants are struggling to address deep-rooted economic problems and recover from major political shocks. ISIS-inspired terrorism threatens Western Europe and North Africa; in Eastern Europe, authoritarianism and Russian interventions are on the rise.

Yet Germany, the calm heart of stormy Europe, appears to sail serenely on: real wages, GDP and employment tick steadily upwards, and Chancellor Angela Merkel looks set to win a fourth term in elections this autumn. What’s the secret of its economic success?

The answer lies partly in the country’s “social market economy” model, replies Torsten Arnswald: employers and unions work actively with the public sector to shape and deliver training, business support and other key services. Then there’s the “Mittelstand”: the country’s many export-oriented small and medium-sized businesses. And with its economy built around skills and manufacturing rather than financial services and property, Germany largely sidestepped the factors behind the credit crunch and Great Recession.

Above all, says Arnswald – who is head of the Fiscal Policy Division in the country’s Federal Ministry of Finance – there’s Germany’s longstanding commitment to balancing the books. Although the country’s national debt rose to over 80% of GDP in 2010, politicians then took the dramatic step of enshrining in the nation’s constitution a requirement to balance the budget; the debt has since fallen to 68%. “This orientation towards stability in macro-economic policies, together with the social market model, forms the underlying fundamentals of our economic strength,” Arnswald argues.

Growing pains

The result is robust job creation and domestic growth, which – together with “windfalls from the very, very low interest rate” – have allowed the government to boost public investment by 5% a year. But this picture looks “rosier from the outside than if you analyse the numbers in detail,” cautions Arnswald, who expects 6-8m people to retire over the next decade – cutting tax take whilst increasing demand for pensions and public services. “You can have question marks about sustainability,” he adds. “There are tremendous challenges ahead.”

Germany has also become a victim of its own success, regularly blamed by its trading partners for exporting and saving too much – and thus running a big current account surplus. But this is unfair, responds Arnswald: German imports are rising faster than exports – and anyway, the issue should be considered at the level of the currency rather than the nation state. “This is a political issue now, rather than an economic one,” he says. “We’ve got a common market with a common framework and currency; you would not go to the US and look at the current account of California.”

What’s more, he adds, this isn’t just Germany’s problem: “If competitiveness is enhanced in France, Italy or the US and their supply side improves, their exports become more competitive and that would contribute to reducing the German current account surplus.” National public debts, he adds, pose a far greater threat to economic stability than current account surpluses.

But Arnswald does have another solution: stop printing euros and let the currency’s value increase by 15-20%. “Many in Germany are quite sceptical about the monetary policies of the European Central Bank (ECB), which are ultra-loose and produce a very low euro exchange rate – pushing up the current account surplus of the euro area against the rest of the world,” he says. “People often think that it’s beneficial for exporting countries to have a low exchange rate, but here we have the opposite experience.” The traditional strength of the German Mark, he adds, used to create a “push for productivity and innovation. To be first, one needs to train – and a hard currency helps.”

Breaking the addiction

The ECB keeps interest rates and euro values low to protect weaker economies in other parts of the Eurozone – but Arnswald believes this approach fails to address the underlying issue. To make a recovery, he argues, the EU’s sick economies must force themselves to get out of bed, shed their excess weight and re-enter the boxing ring. “If you’ve got a country with growth problems and structural problems and institutional problems, and large public sectors with large public employment, then you have to eradicate its inefficiencies,” he says. “No-one would say that this is pleasant; it hurts. But it’s a necessary step.”

Unable to devalue their currencies, Eurozone nations can only recover their fitness by reforming institutions, moderating salaries and cutting public spending; but the approach does work, Arnswald insists. “With the reforms in Ireland and Spain and Portugal, we’ve seen a rebalancing of national current accounts within the Eurozone area,” he says. “Our labour costs increased more than those countries’, so their relative competitiveness increased and they regained market share. Spain’s had a solid approach for a number of years, and unemployment is coming down. This is not a short-term success; they are on the track of real recovery.”

Now, says Arnswald, France and Italy need to walk that road. “We are waiting for real reform measures in France and hopefully also in Italy, two key countries for the future of the monetary union,” he says. France’s newly-elected President Macron seems, he adds, “to be dedicated and committed. We have both hands open as to how to contribute as he develops his reform process. A few years ago the Baltic states underwent dramatic reforms: everyone has to do their share, and now it’s time for France.”

Those reforms, Arnswald believes, will have to go far beyond the spending squeeze labelled as ‘austerity’ in countries such as the UK. “One cannot really say that we are pursuing the policies of austerity,” he argues. “Since 2014, the cyclically-adjusted primary balances – the fiscal position, net of interest expenditures and corrected for economic cycle – hasn’t improved in any of these countries. In other words, they haven’t put any real effort into consolidating public finances.” The result is “ever higher debt levels. According to EU rules and procedures, public deficits exceeding the permitted threshold of 3% of GDP were only meant to last two years and then be fully corrected. In recent years, however, they’ve been prolonged and prolonged.”

Exposing national industries to competition and cutting public spending will help improve countries’ productivity, Arnswald continues, and thus help to boost median incomes and investment – addressing the income inequality blamed for many recent political upsets. Germany’s income inequality has not increased in recent years, he adds; though he acknowledges that loose monetary policies have poured cash into stocks and housing markets, increasing asset inequality.

We all stand together

The greatest European political shock blamed – at least in part – on the lack of real incomes growth is, of course, Brexit. “We do not see that Brexit could be a success in the sense that it would have a positive effect on EU economies,” he comments. “We think it’s got a negative effect also on the UK economy. It’s hard to envision a result where both sides have economic benefits from what’s being discussed.”

So Germany’s “intention now is to limit the damage”, he adds. But the country will not seek to achieve this by compromising key Single Market principles – notably the free movement of labour – in order to preserve German manufacturers’ tariff-free access to UK markets. In an apparent response to the explicit arguments of key UK Brexiteers, Arnswald notes that “there’s been a fallacy maybe in [recent] months that national interests would or could be dominant in terms of Brexit negotiations. For the German industries and the German economy, it seems much more relevant that we keep together the European common market.”

After EU unity, Arnswald says, Germany’s priority is to seek “a smooth divorce from the United Kingdom”. But he clearly has little faith that this can be achieved by March 2019, when the two-year Article 50 process is set to end with the UK’s exit from the EU. Recalling experiences during the reunification of Germany in the early ‘90s, he notes that “this meant a lot of administrative burden in getting issues right between the two Germanies. And with that still in my memory, I have a little fantasy about the time period of two years, given the number of issues at stake.”

Or we all fall apart

For Germany – with its consensual politics, collaborative economy and commitment to free trade – the UK’s decision to leave the EU sits alongside other manifestations of what Arnswald calls “the two P’s in the policy debate: populism and protectionism.” The fiscal chief, it seems, fears that some countries are increasingly tempted to rank their own short-term interests above coordinated international action in the common good. Citing the USA, he warns that a “risk of protectionism from various sites in the global economy” represents a “real threat” to future growth.

Arnswald also fears the weakening of global collaboration on banking regulation, increasing the risk of a future banking crisis. This sector is “prone to unilateral action,” he comments; but if countries “opt out of international cooperation and try to get national or competitiveness advantages by deregulating, that would be very harmful.” And he calls for continued global efforts to “close tax loopholes and disenable our multinational companies from shifting the base of profits to wherever they want, where they would probably pay a virtually zero rate of taxation.” The G20 and OECD have made good progress here in recent years, he adds, and their members “should have a keen interest in close cooperation to create a solid, unified framework on how to safeguard their tax bases”.

So Arnswald is clearly worried that key countries are disengaging from shared global initiatives to pursue their own short-term interests. And he’s just as concerned about the western world’s decade-long addiction to rock-bottom interest rates: when money is essentially free, he argues, then resources are misallocated; uncompetitive firms aren’t forced out of the marketplace; vast cashflows destabilise stock and housing markets; and governments prefer to borrow funds rather than cutting expenditures or raising taxes. So hyper-low interest rates are perpetuating weak productivity and pushing more risk into the system; in Arnswald’s view, rates must rise to force economies to become competitive again.

Putting a price on money

“We all said after the financial crisis that extraordinary measures are warranted, but extraordinary measures are only extraordinary if they continue for a limited period,” he argues. “We are delaying structural change. We expect this money for nothing, but this system is anti-capitalistic and cannot work forever. We need to go back to a normality where money has a fair price and is a real restriction in the allocating processes of economies.”

So could political leaders grasp that nettle, introducing painful reforms in the pursuit of long term goals? Yes, Arnswald believes – as long as they do so intelligently. When Germany engaged in profound economic reforms in the last decade, he explains, he learned that reforms “should touch on everyone, not just on one group or industry or sector. You need to bring everyone into the reform process.” And leaders must keep their nerve, moving from contentious national debates to implement reform programmes.

This has been made still more challenging by the additional task of Brexit, he adds: “If we didn’t have a lot of problems, we’ve created a lot more now.” But he’s been heartened by the G20’s cooperation following the financial crisis: “We really need to go forward fostering international cooperation and the liberal global economic order,” he concludes. “Opting out or building up debt won’t help to stabilise the world economy: these solutions will backfire. We should, all together, find a way back to normality.”

Footnote: this interview was conducted in mid-May, before June’s UK general election – which left PM Theresa May severely weakened – and the start of Brexit talks.

Global Government Forum: Five Thoughts for Better Government

Torsten Arnswald on learning from overseas

To help our readers get the best out of Global Government Forum, we ask interviewees five standard questions – four seeking practical advice and opinions, and one to reveal something a little more personal. This is an edited version of Torsten Arnswald’s answers – click below to watch his full answers in a Global Government Forum video.

Can you name one lesson or idea from abroad that has helped you or your colleagues?

“In the aftermath of the collapse of Lehman Brothers, we received a very valuable impulse from the United Kingdom’s then Prime Minister Gordon Brown. He proposed the right measures in terms of recapitalisation of banks, of guarantees, and also of finding solutions to deal with the toxic assets in the banks’ balance sheets. That showed that co-operation and exchange at just the right time can be very decisive.”

Are there any projects or innovations from your country that might be of value to your peers overseas?

“There’s one big item from Germany which, in my opinion, is instrumental in explaining one of the underlying strengths of the German economy: the dual vocational apprenticeships system.

“This has helped to get young people into the job market and train them in the technologies relevant to industry and commerce, and Germany as a consequence has low youth unemployment – something that remains one of the biggest problems for other countries in the Eurozone. So we emphasise that some remodelling of vocational training in the other euro area countries would be rewarding.

“It doesn’t need to be exactly the model we’ve got: other countries like the Netherlands, Austria and Switzerland also have dual apprenticeship systems. But that’s certainly a concept we’re looking into to find solutions.”

How can we improve the ways in which senior public officials work with and learn from their friends and colleagues overseas?

“We’ve got a good exchange programme with France for junior civil servants. And once [people] move up the career ladder and have more responsibilities, often we’re trying to find solutions on certain items within our finance ministries. [Exchanges mean that] there is no obstacle to setting up a taskforce and getting involved with other countries to find solutions together.”

What the biggest global challenges in your field over the next couple of years?

“In the field of fiscal policy, the spectrum of challenges remains wide. It includes, for example, demography, globalisation, digitisation, and still-unresolved issues in the financial sector, in high public and private debts, and in the future of the Eurozone. It’s no secret that – with Brexit – new topics of have come up last year for the global economy and within Europe; so there are many challenges ahead.”

Finally, what’s your favourite book?

“That’s one of the most difficult questions – how can you have a favourite book or play or piece of art?

“But I personally very much like history, in order to understand the lines of societal, cultural, linguistic development in Europe. I read a book by Robert Fossier, entitled ‘The Axe and the Oath: Ordinary Life in the Middle Ages’. Usually we look at politics and history at the level of the dynasties and the aristocracies and the decision makers – but this took another perspective, looking on developments for ordinary people. That’s not only helpful for the past, of course; it’s also helpful for the present and the future.”

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About Matt Ross

Matt is a journalist and editor specialising in public services, policymaking, government and management. He was the editor of trade title Civil Service World from 2008 to 2014, serving an audience of senior UK officials; and the features editor of weekly news magazine Regeneration & Renewal between 2002 and 2008, covering urban regeneration, economic growth and community development. He has also been a motoring and travel journalist, and now combines his role as editorial director of Global Government Forum with writing for other publications including The Guardian and Planning magazine.

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