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(Reuters) - Goldman Sachs raised its economic growth forecast for Germany this year, citing the prospect of increased military and infrastructure spending, and also upgraded the growth estimate for the broader Euro area.
Goldman now expects a 0.2% growth for Europe's largest economy, up by 0.2 percentage points. In a note late Wednesday, the brokerage projected the Euro area's growth to increase by 0.1 percentage point to 0.8%.
The parties in talks to form Germany's new government on Tuesday agreed to try to loosen fiscal rules that would amount to a nearly $1 trillion euro borrowing boom to fund defence and infrastructure spending.
"We see some spillovers from Germany into neighbouring countries and now expect the rest of the Euro area to step up military spending somewhat more quickly in response to the German shift," said Goldman economists led by Sven Jari Stehn.
"We assume that spillovers are larger for France, smaller for Spain, and average for...Italy, to reflect the likely trade flows in defence spending," Sven added.
Goldman expects France, Italy, and Spain to scale up defence spending to 2.9%, 2.8%, and 2.7% by 2027, respectively.
Countries other than Germany are closer to their fiscal limits and will likely have to finance some of the increase by cutting spending or raising taxes, which would result in a smaller fiscal boost, the brokerage added.
FISCAL LOOSENING MIGHT ALLEVIATE PRESSURE FOR ECB
"The fiscal news lowers the pressure for the European Central Bank to reduce rates below neutral," Goldman said.
The brokerage does not expect the central bank to cut interest rates at its July policy meeting compared to its earlier projection of a 25 bps cut.
Goldman estimates ECB's benchmark interest rate will reach 2% by June this year. The central bank is expected to cut its deposit rate by 25 bps to 2.50% at its monetary policy due later on Thursday.
(Reporting by Siddarth S in Bengaluru; Editing by Sherry Jacob-Phillips and Janane Venkatraman)
