Economic crisis' forces German call for lower rates

Gerhard Schröder was last night piling pressure on the European Central Bank for deeper cuts in interest rates after one of Germany's leading thinktanks warned that recession and imminent deflation had left the country in "economic crisis".

With his ministers scaling down their already low expectations for expansion this year, the German chancellor said the ECB had to "answer the question of whether they have already done enough for stimulating growth".

Europe's central bank cut rates by half a percentage point to 2% last month, but Mr Schröder's comments in a speech in Berlin - while stressing the ECB's independence from politicians - reflect growing concern in Germany that more drastic action may be required to revive Europe's biggest economy.

The DIW thinktank said Germany's economy would shrink by 0.1% this year, compared to a previous forecast of 0.6% growth, with only a modest recovery likely in 2004.

"Germany is in an economic crisis," the research institute said in its summer report. "There is no prospect of a significant turnaround next year. Growth will be 1.3% but 0.6% of that will be because of the effect of extra working days."

The DIW said Germany met all the conditions for a sustained fall in prices, with price growth below 1% and major overcapacities because of the long period of stagnation. It called on the ECB to act to counter deflation by lopping 50 basis points off interest rates.

"While we don't expect a deep recession like in 1993, in the last three years all economic dynamism has been extinguished. Stagnation rules. The biggest danger resulting from the long period of stagnation is deflation," the DIW report said.

The thinktank's gloom came as official figures released yesterday showed engineering orders and retail sales both falling, while a survey of manufacturing across Europe showed that Germany's economic problems are affecting industrial performance across the continent.

With the strong euro having a dampening effect on exports, the downturn in the eurozone's manufacturing sector gathered pace in June, according to the Reuters eurozone purchasing managers' index, a survey of around 3,000 companies.

Manufacturing slid further below the 50 line that divides growth from contraction, sinking to 46.4 in June from 46.8 in May - well below the consensus forecast in the financial markets of 47.4.

Output shrank at the fastest pace since January 2002 and new orders at the sharpest rate since December 2001.

"The drop in orders was principally driven by the recent strength of the euro against the dollar," said NTC Research, which compiles the survey for Reuters.

Wolfgang Clement, Germany's economics minister, joined finance minister Hans Eichel in indicating doubts over whether economic growth this year would meet the government's forecast of 0.75%.

"We are in a weak growth phase...I won't estimate how high it will be to avoid starting another discussion," Mr Clement told reporters. Earlier, Mr Eichel said there was a question mark over the 2003 growth forecast.