Booming Germany

The German economy, the biggest in the single currency region, "has developed very positively this year," Axel Weber, the bank's president, said in a speech at an economic forum in Hamburg.

After expanding by 0.8 percent and 1.1 percent respectively in the first two quarters of this year, gross domestic product (GDP) grew by 0.8 percent in the third quarter.

"The economic uptrend continued at a rapid pace in the third quarter," Weber said.

The annual growth rate for the whole of 2006 "should therefore stand at around two-and-three-quarter percent, well above potential," the German central bank chief said, adding that exports and domestic demand were contributing to growth. "That means Germany is providing substantial impulses for the euro area."

Slower growth in 2007

But domestic consumption, long a dark spot in export-strong Germany, is still troubling the nation.

"There is still no sign of a deep recovery in consumption, even if there have been improvements on this front recently," Weber said. "In the traditional retail sector, developments are still weak."

Looking ahead to next year, Weber said he was projecting the current upturn to weaken "but not break down altogether."

"The fundamental trend will remain intact, even if the rise in value-added tax on Jan. 1 will have a substantial braking effect on the economy," he said.

The German government has decided to raise VAT by 3 percent to 19 percent from next month, the biggest-ever single VAT rise.

Berlin set to meet EU rules

Turning to the state of Germany's public finances, Weber said that given the country's strong economic performance, the public deficit was to set to fall back within EU limits for the first time since 2002 this year.

Under the European Stability and Growth Pact, eurozone countries are not allowed to run up public deficits in excess of 3 percent of GDP.

However, Germany, the pact's main architect, has been in breach of the 3-percent rule every year since 2002.

Weber said the Bundesbank was penciling in a deficit ratio of "around 2 percent this year."

Given the tax measures due to come into effect from 2007, the deficit ratio would likely fall further next year, Weber continued.

Don't celebrate yet, some work remains

However, Germany should not rest on its laurels, "there is still room for further substantial consolidation," Weber said.

"A deficit ratio of less than 3 percent is just an interim goal," he said. "Much of what has been achieved is cyclical. The medium term goal is to achieve a balanced budget. Additional consolidation must follow in economically good times."

Weber warned against excessive euphoria.

"The current favorable economic developments and the related increase in tax revenues must not be interpreted as an indication of improved growth perspectives in the long term," he said.

More structural reforms would have to be implemented to improve the low potential growth rate of the German economy and reduce unemployment on a lasting basis, Weber added.