Why Germany is getting the 'sick man of Europe' label again

More than two decades ago, Germany was known as the ‘sick man of Europe’. Now, with the country with Europe’s biggest economy stagnating in the second quarter from the previous three months, showing no sign of recovery from a winter recession and cementing its position as one of the world’s weakest major economies, Berlin is once again in danger of being given that unfortunate moniker. Let’s take a closer look at why are some people calling Germany the ‘sick man of Europe’ once again and why others think it might be a tad premature: What happened? The figure of zero growth for the second quarter was in line with a first estimate published in late July. Year on year, adjusted GDP contracted by 0.2 per cent in the second quarter. Quarter on quarter, economic activity had fallen by 0.4 per cent in the fourth quarter of 2022 and by 0.1 per cent in the first quarter of 2023. Two consecutive quarters of contraction fulfills the technical definition of a recession. Carsten Brzeski, global head of macro at ING, said:

“Both the short-term and the longer-term outlook for Germany looks anything but rosy.”

Weak purchasing power, thinned-out industrial order books, a slowdown in the Chinese economy and the impact of the most aggressive monetary policy tightening in decades all point to weak economic activity in Germany going forward, Brzeski said. Household consumption showed zero growth in the second quarter from the first and government spending rose by 0.1 per cent. Capital investment also grew modestly while exports fell 1.1 per cent, Friday’s data showed. “After slight declines in the previous two quarters, the German economy stabilised in spring,” said Destatis president Ruth Brand. The economy was supported by improved consumption and rising investments. Why is this happening? Germany’s problems include weakness in the vast industrial sector and a lacklustre performance by exports, both of which have major impacts for the whole of the economy. These two key pillars are particularly sensitive to surging inflation, rising eurozone interest rates and the struggling economy in China, Germany’s top trading partner. Thomas Obst, senior economist at the Cologne Institute for Economic Research, told CNN ‘sticky inflation’ is to blame.

Obst said this is eating away at purchasing power amd fuelling “pessimism among households.”

Jasmin Groeschl, senior economist for Europe at Allianz, told CNBC Germany’s travails were due to the export machine sputtering. Germany’s annual inflation rate slowed to 6.2 percent in July, mainly on the back of falling energy prices, but it is still far above the European Central Bank’s two-percent target. As a result of rising prices as well as the cost of credit in Europe and the United States, companies’ order books are suffering, in a country where industry represents more than 25 percent of GDP. “[German] industrial order books have emptied over the last 12 months,” Brzeski told CNN. “German exports to China are very sluggish, much [lower] than pre-pandemic.” [caption id=“attachment_13040512” align=“alignnone” width=“640”] Germany’s exports have the kids. Reuters[/caption] “Exports have created our wealth… but as the global economy weakens, Germany takes it harder than others,” Economy Minister Robert Habeck told weekly Die Zeit. On top of that, German firms had to contend with the energy shock triggered by Russia throttling crucial gas supplies after its invasion of Ukraine. Although prices have fallen since peaking last year after the German government rushed to find new suppliers, they remain above their levels before the war started. “Germany has simply not done any economic reforms over the last 10 years,” Brzeski told CNN. “[It] has fallen behind [in] all international rankings when it comes to digitalization, infrastructure, international competitiveness, and now it is waking up to this reality.” What is the government doing? The current government is the first ruling coalition to consist of three parties in Germany’s post-war history, comprised of Olaf Scholz’s Social Democrats, the Greens - in charge of the economy ministry - and the pro-business FDP, who head the finance ministry.

But the coalition, which took power in late 2021, has been beset by disputes and squabbling, and economic policy is no exception.

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One area of tension has been over Habeck’s plan to cap the price of electricity used by energy-intensive industries until 2030 to insulate them against sharp cost increases. The measure is aimed at keeping sectors such as the chemical industry competitive while the country boosts its capacity to produce renewable energy from sources like wind and solar, which are cheaper. But it has provoked opposition from Habeck’s coalition partners - Finance Minister Christian Lindner of FDP has said it is “out of the question to intervene directly in the market by distributing subsidies”. Scholz is also against the plan, although some lawmakers from his own party has spoken in favour of it. For his part, Lindner wants tax cuts for businesses - but the six-billion-euro package that the government was supposed to adopt last week was blocked by a Green minister. Scholz, meanwhile, in an interview with German media in March, he said the push to achieve climate neutrality by 2045 would bring back “levels of growth like in the 1950s and 1960s” – the age of West Germany’s postwar ‘economic miracle’. For the Social Democrat chancellor, the massive spending needed to install new wind turbines, build electric vehicles, make steel production less polluting or produce heat pumps will create a virtuous economic circle. But the vision of a new economic golden age thanks to the transition to green energy leaves some experts sceptical. The switchover will first of all see billions of euros sunk into “replacing the existing stock” of fossil-fuel technologies with renewable ones “with significantly elevated costs”. [caption id=“attachment_13040522” align=“alignnone” width=“640”] German Chancellor Olaf Scholz. AP[/caption] For the Social Democrat chancellor, the massive spending needed to install new wind turbines, build electric vehicles, make steel production less polluting or produce heat pumps will create a virtuous economic circle. But the vision of a new economic golden age thanks to the transition to green energy leaves some experts sceptical. The switchover will first of all see billions of euros sunk into “replacing the existing stock” of fossil-fuel technologies with renewable ones “with significantly elevated costs”. Siegfried Russwurm, head of the influential BDI lobby, warned that will not lead to extra economic growth in the short term. “We will only reap the reward of this investment in the distant future, when we have effectively managed to reduce greenhouse gas emissions.” What do experts say? The IMF has forecast that Germany will be the only major advanced economy to shrink this year. Several concerns on the economic front are widely shared - uncertainty about energy costs in the medium term, cumbersome regulations, a lack of skilled labour, and a slow shift to a digital economy. The media have seized on the gloomy economic data as evidence things are going seriously wrong, an Economist cover story asking: “Is Germany once again the sick man of Europe?” “A struggling manufacturing sector already risked undermining the economic recovery following the winter recession. Recent data show German industry remains soft — a sign of weak export demand, particularly from China,” Bloomberg Economics said in a note. Pantheon Macroeconomics forecasts GDP will post a 0.2 per cent contraction in the third quarter, before a rebound of 0.4 per cent quarter on quarter in the last quarter of the year. That would mean that German GDP falls by 0.2 per cent year on year in 2023. “If our forecasts for the rest of the big four eurozone economies are correct, this means Germany will be the worst performing among them,” said Melanie Debono, senior Europe economist at Pantheon Macroeconomics. The Bundesbank expects economic output to remain largely unchanged in the third quarter, according to a monthly report published on Monday. A resilient labour market, strong wage increases and declining inflation should boost private consumption, but industrial production will remain weak due to sluggish foreign demand, the report said.

Marcel Fratzscher, head of the Berlin-based DIW institute, says Germany’s problems are structural.

The country needs a “long-term transformation programme, with an investment drive, a broad (reduction of its bureaucracy) and strengthening of social systems,” he said in an analysis published over the summer. This theory was somewhat echoed by Stefan Kooths, research director for business cycles and growth at the Kiel Institute for World Economy. Kooths told CNBC Germany was facing “two very separate battles” – both short-term, cyclical issues due to the global economic situation as well as long-term structural issues. “Germany needs lower corporate taxes, less red tape, faster approval procedures, more investment in roads, bridges and digital infrastructure, competitive electricity prices and better schools,” Joerg Kraemer, chief economist at Commerzbank, told CNBC. ‘Not too pessimistic’ But some experts have struck a less alarmist tone. Holger Schmieding, chief economist at Berenberg Economics, told CNBC,  “To call an economy with record employment, a lot of job vacancies and the best physical position of almost all major economies in the world ‘the sick man of Europe’ really does not fit.” Schmieding is the economist who coined the ‘sick man of Europe’ phrase.  

“They have definitely not gone wrong to such an extent that that label would be adequate,” Schmieding added.

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“Germany is the undisputed global champion of ‘hidden champions’,” he told CNN. Ifo’s Klaus Wohlrabe told Bloomberg the institute expects output around the “zero growth line.” “The current numbers of our surveys point to the fact that there might be a slight negative growth in the third and over the fourth quarter,” Wohlrabe added. “But we do not expect a deep recession as many are forecasting or talking about.” Bundesbank president Joachim Nagel also struck back against the notion that Germany was again becoming the “sick man of Europe.” “We shouldn’t underestimate the adaption capacity of the German economy,” Nagel said. “Yes, we are going through some, let me say, complicated months. This is for sure. But I’m not too pessimistic.” “Germany is like a man in his 40s who has long been successful, but now has to reorient himself professionally,” added Clemens Fuest, from the Ifo institute. Berenberg Bank economist Holger Schmieding said the “current wave of pessimism is far overdone”, and the situation was different from a previous period of economic trouble, from 1995-2004. “The government is already addressing some key issues, such as the shortage of labour and the long approval procedures that hold back public and private investment,” he wrote in an analysis. With inputs from agencies