German Economy to Contract in 2023 - Ifo

© Reuters.

By Scott Kanowsky

Investing.com -- The German economy is expected to contract in 2023, according to a forecast from the Ifo Institute in Munich, due mainly to spiking inflation eating away at private consumer spending.

Europe's largest economy is now seen declining by 0.3% next year, paring back an estimated expansion of 1.6% in 2022, the research group said in a statement Monday. Inflation is predicted to rise to 9.3% in 2023, with the figure peaking at around 11% in the first quarter in particular, as energy suppliers ratchet up prices to offset soaring procurement costs spurred on by dwindling Russian gas supplies.

"This will result in a sharp drop in real household incomes and a noticeable decline in purchasing power," Ifo said in a statement, adding that government measures to limit the impact of inflation and stem sliding growth will "fall far short" of these objectives.

The forecast is "significantly" lower than Ifo's previous outlook. Real GDP expectations have been drawn down by 4 percentage points, while inflation predictions were raised by 6 percentage points.

Manufacturing will be the key driver of the German economy in the coming quarters, Ifo said, as ongoing supply chain constraints begin to ease because of cooling global growth. A renewed uptick in interest rates will also lead to more expensive financing costs for construction businesses and subsequently weigh on the entire sector.

However, price increases are forecast to weaken throughout the coming year, thanks in part to large quantities of gas reserves that have been built up recently to counteract the cut to Russian fuel flows this winter. Energy costs are subsequently estimated to fall again from spring 2023 at the latest.

The German economy is not estimated to "return to normal" until 2024, Ifo added, when growth will hit 1.8% and inflation will come in at 2.5%.

Ifo flagged several risks to its forecast, including the development of energy prices, supply chain challenges, and restrictions on public life brought on by a potential resurgence of Covid-19 cases.