With a GDP decline of 0.3% in 2023 and 0.2% in 2024, Germany is experiencing its longest economic crisis since the early 2000s. At the time, Germany was qualified as the sick man of Europe, but it had been able to reform itself to recover. Is this still possible today?
A deep crisis
The German economy has underperformed in terms of the rest of the euro area and its performance over the last two decades. Unlike previous crises, the German economy has not managed to regain its dynamism after the economic earthquake of the COVID-19 years. At the end of 2024, German GDP was at a level similar to that of late 2019, before the outbreak of the pandemic. At the same time, economic activity in the other euro area countries grew by about 7% overall.
The German economic stagnation of recent years is explained by a simultaneous shutdown of all activity drivers, starting with industry. Over the past twelve quarters, industrial production has fallen 10 times for a cumulative decline of more than 10%. The weakness of household consumption, declining in 2023 before stabilising in 2024, also explains the sluggishness of the German economy. Add a sharp decline in investment and less flourishing foreign trade, and you have all the ingredients to have a German economy at a standstill.
Multiple causes
The industry’s setbacks in recent years stem primarily from the surge in energy costs due to the end of cheap Russian gas.
The upscale quality of Chinese products is increasingly competing with German production. German industrialists have also not always made the right choices. The most striking example is the automobile, which has badly started the turn of the electric car.
The weakness in household consumption is due to disposable income and confidence. High inflation and rising wages have virtually nullified the improvement in household purchasing power in recent years despite full employment.
Worried by the economic crisis, German households have also increased their saving rate significantly more than elsewhere in the euro area. The poor economic climate has also held back business investment.
What to do to get out of the crisis?
Some measures often agreed upon within the political class can revitalise the economy in the medium term. The first step is to improve the business environment to stimulate investment and halt the decline of industrial production. This involves providing energy at an “acceptable” price, even if it requires some form of government subsidy. Reducing administrative burdens and corporate taxation, now the highest in the major developed economies, is also essential to restore Germany’s attractiveness. Reinvesting in public infrastructure, which is more up-to-date after decades of under-investment, is also a priority.
All parties also want to reduce household tax burden to boost consumption.
With sound public finances, a deficit of 2.5% of GDP in 2024, and a debt close to 60% of GDP, Friedrich Merz, head of the CDU and next chancellor, wants to abolish the obligation to balance public accounts (enshrined in the Constitution) and draw the budgetary weapon. It remains to be seen to what extent and with what immediate results.
Poor prospects
As 20 years ago, when a massive flexibilisation of the labour market had saved the industry and allowed full employment, it will be necessary to carry out essential reforms to recover the German economy. But it will take time.
In 2025, GDP growth will remain low, just above 0%, according to the latest forecasts of the German authorities. In the short term, hoping for an industrial recovery is illusory, especially in the current challenging commercial context. The USA is Germany’s first customer. This position has been strengthened recently, with German companies exporting goods from other markets to the US. With a substantial trade surplus vis-à-vis the US, Germany will not escape Trump’s trade attacks.
Nor should we expect a sharp rebound in household consumption in the coming months. Economic concerns will continue to dampen spending. These weak prospects do not justify investing in Germany or the eurozone as a whole, which cannot be dynamic with its first economy, accounting for one-quarter of European GDP, at a standstill. Of course, using the budgetary weapon could gradually change the data. But investors have already anticipated this news.
Despite a challenging economic situation, the German stock exchange is multiplying historical peaks.
We, therefore, believe that despite the change in government, the potential of the German stock exchange is limited unless a peace agreement in Ukraine suddenly opens the gates to Russian oil. We remain out of the euro area market, even if we see individually some interesting actions.
