European economy on the rise

The mainland European economy, buoyed by a resurgent Germany, is expanding at its fastest rate for six years, outstripping Britain and the US, fresh figures showed today.

Domestic euphoria over the football World Cup held in Germany boosted the country's economy, which grew by 0.9% in the second quarter, the fastest growth for more than five years, government figures showed.

Domestic investment and a rise in consumer spending have overtaken exports as the main impetus for economic growth. "For years we Germans have seen the glass as half-empty; now, at long last, it is half-full," one chief executive said, expressing the hope that the optimism generated by the summer Fussballfest would continue for the rest of the year.

The bounce in the German economy was reflected elsewhere in Europe, according to EU figures. The French economy expanded 1.2% in the second quarter, its fastest rate for six years, and economists expect the European Central Bank to raise interest rates twice more this year to 3.5%. In the second quarter, the US economy grew by 0.6% and the UK 0.8%. "Europe is in the lead," said Holger Schmieding, economist at Bank of America.

The European Commission indicated it could raise its 2006 full-year growth forecast for the eurozone in the autumn. It is now at 2.1%. Brussels edged up its third-quarter forecast but trimmed its final-quarter estimate, partly due to evidence that some of the steam went out of the economy in July.

But the second quarter could mark the peak for eurozone growth, according to Howard Archer, chief UK and European economist at researchers Global Insight. "A stronger euro, slowing global growth, very high oil prices, higher interest rates and tighter fiscal policy in several countries (notably Germany and Italy) threaten to exact an increasing toll on eurozone growth ... We forecast it to moderate from 2.3% in 2006 to 1.6% in 2007," he said.

Germany is finally shaking off the gloom of the past decade when consumers reacted to record postwar unemployment by saving rather than spending. Official forecasts showed the economy expanding by 1.6% this year but many economists have raised their forecasts to 2.3%. The Federal statistics office in Wiesbaden revised its first-quarter figures from 0.4 to 0.7% growth and said growth in the first half was 2.4% compared with the same period last year.

Michael Glos, economy minister, stuck to the official forecast but declared: "The economic knot of the last few years has finally been broken. The upturn has gained in strength and breadth. The situation on the labour market has significantly improved. Therefore the prospects for this year are exceptionally positive."

Business confidence was close to a 15-year high, although chief executives were divided on the prospects. One emerged from a recent meeting with Chancellor Angela Merkel and senior ministers in despair about the chances of reform, notably in tax, health and the labour market.

Another, an avowed supporter of Ms Merkel, insisted Germany's first woman chancellor had breathed new optimism into a more youthful, more flexible society. Companies, having shed hundreds of thousands of jobs, were now starting to take on labour and invest.

Further evidence of a German upturn came with confirmation that the tax take in the first seven months was ?20bn (£13.5bn) more than a year ago, and ?10bn more than budgeted. This prompted calls for corporate tax cuts and reductions in national insurance contributions.

Economists have calculated that the planned 3% jump in VAT from January 1 next year to 19% will spur consumer spending in the second half of this year. Opponents of the increase have begun arguing that the government's healthier fiscal position made the rise redundant.

Wolfgang Franz, head of the Centre for European Economic Research, told Spiegel online that there were early signs that the economy could weaken and the disproportionate rise in domestic demand was proof that consumers were reacting to the forthcoming rise in VAT.