If you want to stimulate the economy when consumer spending is the best economic news you get, can you really lower pensions? It seems to me that once you make the basic choices to run a deficit to stimulate you need to take all steps that involves. Either keep the cake or it it.

“Is it likely that inflation remains so low that this cannot be solved by keeping pensions nominally stagnant?”

Well this is a hard call Oliver. The most likely outcome is that Germany is going to get stuck – like Japan before it – in deflation. In which case indexing downwards is very important and inevitable. But even assuming you get inflation (sometime in the next five years lets say), is any German government going to have the stomach to tell pensioners that they are not going to get a raise (ie, that just as recovery may come that they are going to be worse off).

The danger of this kind of decision is, it seems to me, that it messes up the whole funding process for years to come. Then, of course, we will hit another fiscal “issue”, and more painful reforms will be necessary, but do you really want Germany to become another Hungary first?

Up to now, hard decisions have been made. We now see that these have not been enough, and more tough ones will be needed. The idea that the German economy was going to “recover” to become a balanced internal consumption and export supported economy has just come crashing down along with the GDP figures.

You need a national debate as to why this is, and you need to start to look for some way out of this trap. And I suggest people start looking at the underlying demographics as one of the factors. France certainly doesn’t have this problem.

“Taking this to the logical conclusion, net recipients of state aid should not be allowed to vote.”

Well this is not my view, but it is clear that the political process can become effectively “screwed” by having too many people over a certain age. The logical conclusion is normally that the process goes on until it can’t any more. Then the IMF get called in (in which case politicians implement the laws they are told to – or if not, no money, see Latvia, Hungary and Ukraine right now, all notionally democratic states). But I certainly hope we are not going to get to this point in Germany.

It seems to me that you cannot blame a government for not lowering pensions, but complain that governments won’t let pensions stagnate. Taking this to the logical conclusion, net recipients of state aid should not be allowed to vote.

OK, thanks Michael, corrected. Doing too much too quickly.

Rather more worrying is the impact of this latest fiscal crisis on the pensions system, since the government seem to be unwilling to entertain a reduction in pensions. “Pensions won’t be cut, you can count on that,” Labour Minister Olaf Scholz is quoted as saying (this is election year) and he doesn’t seem to be prepared to consider that the retirement age may need to be raised beyond 67.

Bertrand Benoit had an extensive article in the FT last week about the potential long term structural damage they may do here (see extract below). I mean, it is within the democratic right of the German population to resrict inward migration (from Eastern Europe and eslewhere) and not substantially address the problem of long term low fertility, but they need to be coherent with that and accept the consequences of having such a high elderly dependent population for GDP output, retirement ages, and general welfare benefits. You need to cut your coat according to the cloth you now have.

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Germany’s generous welfare system could collapse as early as this year because of the economic crisis and misguided confidence-boosting measures by the government, experts have warned.

The warning was made after Angela Merkel’s cabinet adopted a permanent ban on pension cuts this week, shielding 20m pensioners who might have faced old-age benefit cuts next year from the effect of the economic crisis.

The heavily criticised measure confirms a trend that has seen Berlin use the vast social security system – more than half of Germans derive all or part of their income from benefits – in its fight against the steepest recession since the 1930s.

Public finance economists are worried, however, that Berlin’s partial dismantling of decade-old reforms of social security could leave the next government facing a painful choice between drastic benefit cuts or tax increases to finance the crumbling system.

“We had almost fixed the pension system. We had made it demography-proof and business-cycle-proof,” says Bernd Raffelhüschen, professor of economics at Freiburg University. “In fact, we had a buffer. The pension system could have gone through the crisis. Now we are back to the drawing board.”

Since 2001 the value of benefits that German pensioners receive has been indexed to wages. However, this week’s move by Ms Merkel’s government broke that link and means pension payments will only ever go up, removing the mechanism that would have reduced payments if and when contributions to pension funds were reduced.

Economists argue that the move is less a growth-boosting measure than an unjustified gift to a large group of voters ahead of the general election of September 27……

“What the government has done is to decouple pensions from wages,” says Karl Brenke, a labour market expert at the DIW economic institute in Berlin. “This is something no government has been irresponsible enough to do for the past 30 years.”

The labour and social security ministry argues that the measure was politically necessary because pension payments would have fallen precipitously alongside wages this year as a result of the large number of employees being put into short-shift schemes. Under those schemes the government helps companies to cover their labour costs if they agree to cut working hours rather than jobs.

The government says the measure will be self-financing since forgone pension cuts in coming years will be offset by reduced benefit increases when the economy and wages start rising again. But “this is mischievous”, says Prof Raffelhüschen. “This would essentially mean no pension increase, whatever the inflation rate, until 2020, which nobody believes any government would do.”

In spite of this, tax revenue for ’09, based on the same estimate, would still be the 3rd highest in the history of the federal republic, according to the BdSt – a taxpayers organization – see: http://www.steuerzahler.de/webcom/show_article.php/_c-49/_nr-536/i.html