Thinking Long-Term

2006 was the best year so far in the business cycle. Germany's economic performance climbed 2.9 percent -- the strongest growth in six years. This year, economic growth is at 2.5 percent.

There is a close connection between the growth rates in 2006 and 2007. Due to the drastic three-percent hike on added-value tax on Jan. 1, many consumers pushed up the purchase of more expensive items -- from cars to home decoration items to computers, so it's no surprise that the 2006 boom couldn't continue into 2007.

The tax increase is no longer an issue, but there are plenty of other factors disrupting the economy.

US real estate crisis leaves lasting mark

In the US, the upswing that followed the real estate and mortgage crisis is now losing steam. But, it's even worse: Many already see the specter of a recession in the US. That dampens the mood world-wide since the US is by far the largest economy and a key player in the global financial system.

The mortgage crisis hurt business for banks around the world. Everyone wanted to make a profit with the bad mortgages and they all lost -- not just the American banks, but also large Swiss banks and German savings banks.

Once again, greed conquered reason. The result will burden the economy for some time to come.

Then there are high oil prices and the expensive euro. The scarcity of raw materials around the world, in part due to strong demand in China, is also driving prices up. Rising prices detract from consumers' purchasing power and they're holding on to their money -- which, in turn, weakens demand.

Exports and foreign investment are up

Nevertheless, "the German economy continues to experience a solid upswing," said the German Federal Bank in its most recent report on the state of the economy.

There are good reasons for this. All over the world -- especially in the resource-rich emerging nations with high export receipts and, in some cases, huge foreign currency reserves -- investments are being made in infrastructure and industry, and the new wealth is being vigorously consumed.

Germany delivers more high-quality goods than any other country, whether they are machines, manufacturing plants, luxury cars or top-end food products. What's more, companies in Germany not only have a suitable range of export products, but also offer excellent service.

During the last few years of economic decline at home, companies expanded immensely on the world market, which is now paying off. As a result, not only have exports hit a record high but domestic investment is booming as well, as many companies adjust their production capacity to meet increased demand.

Otherwise strong economy hurt by external factors

However, the economic slump in the US, the problems with the banks, the high oil prices and the expensive euro have dragged down the economy's upward slope. Respectively, the Federal Bank has predicted 1.9 percent growth in 2008, while some economic research institutions foresee only 1.5 to 1.6 percent.

Hence, the upturn will continue, just with considerably less gusto.

No one can reliably predict whether the economy will rebound again in 2009 or whether the current economic cycle is already drawing to a close. On the one hand, the German economy is resting on a much stronger foundation than in earlier years, but on the other hand, the rising inflation rate is increasingly becoming a reason for concern.

In November, price inflation was 3.1 percent higher than what it had been a year earlier, which is significantly greater than the two-percent window tolerated by the European Central Bank.

The currency guardians should respond with an interest rate increase, but that's not possible due to the bank crisis. Instead, central banks around the world are pumping billions and billions into circulation, which only intensifies inflationary tendencies.

What may seem necessary today can strangle the economic upswing in the mid-term.

Karl Zawadzky is DW-RADIO's business editor. (kjb)