- The German economy experiences a contraction - consumer optimism wanes
Following a minor contraction in the spring, Germany's economy is in danger of slipping back into recession. In the second quarter, the gross domestic product (GDP) decreased by 0.1% compared to the previous quarter, as reported by the Federal Statistical Office, aligning with an earlier estimate from July. This performance by Germany was weaker than many other European nations. Economists anticipate minimal improvement in the near future.
Federal Finance Minister Olaf Scholz (SPD) commented on these figures, stating, "These current figures highlight the German economy's stagnation." This situation emphasizes the necessity for the federal government's growth strategy. The traffic light coalition has pledged 49 initiatives to boost the economy, but few have been implemented as of yet.
Despite the economic slowdown, the German government reported an increase in tax revenues and a slightly reduced deficit in the first half of the year, as noted by the statisticians. With a state deficit ratio of 1.8%, Germany comfortably adheres to EU budget rules, despite ongoing disagreements over the federal budget and debt brake.
The reason for the shrinking economy in the second quarter includes reduced investment in equipment, primarily machinery, devices, and vehicles. These investments declined by 4.1% compared to the previous quarter, a larger decrease than investments in construction (down 2.0%).
As Ruth Brant, president of the Federal Statistical Office, noted, "After a slight increase in the previous quarter, the German economy cooled down again in the spring." In the first quarter, GDP had risen by 0.2% compared to the previous quarter. Exports of goods and services in the spring were 0.2% lower than in the first quarter, impacting the German industry negatively.
The state development bank KfW predicts a slight economic recovery in the third quarter. "The German economy will gradually recover in the coming quarters, but it will not be until 2025 that the annual growth will be significantly positive again," said chief economist Fritzi Köhler-Geib. She cited strong real wage increases as a major factor boosting consumer purchasing power.
However, consumer spending has yet to pick up - many are saving their money in response to inflation. In the second quarter, private consumption decreased by 0.2% compared to the previous quarter, according to the Federal Statistical Office. Consumer sentiment also waned in August, as reported by the latest consumer climate study by the Nuremberg-based institutes GfK and NIM.
Consumers' expectations regarding income and the economy have decreased, while their savings rate has increased. "Apparently, the excitement sparked by the football European Championship in Germany was only a brief spark and has since faded after the tournament ended," said NIM consumer expert Rolf Bürkl.
Germany once again faces the threat of a recession as a result of the decline in the second quarter. If GDP contracts in two consecutive quarters, economists refer to this as a technical recession. The economy's performance was already slightly down in 2023. Most recently, the mood in the German economy has deteriorated further: the Ifo business climate index fell for the third month in a row in August.
The Bundesbank anticipates a delay in the economic recovery. It expects an economic downturn but not a prolonged and widespread decline in economic activity. In June, the Bundesbank had predicted growth of 0.3% for this year.
Good News for Public Finances
Public finances demonstrate a more favorable outlook than the economy. Germany's state deficit has decreased slightly. According to preliminary calculations by the Federal Statistical Office, expenditures surpassed revenues by 38.1 billion euros in the first half of the year. The expiration of energy price brakes at the end of 2023 helped to curb the increase in state expenditures. Simultaneously, state tax revenues rose by 3.6% compared to the previous year.
The federal government had the largest share of the state deficit at 24.6 billion euros, but the financial gap there decreased significantly by 17.9 billion euros. Meanwhile, the deficit of states and municipalities increased sharply. Social security recorded a financing surplus of 0.2 billion euros, much less than in the previous year (9.6 billion euros).
Measured against the gross domestic product (GDP), the deficit ratio for the first half of the year was 1.8%. This is significantly less than the EU's fiscal rules under the Stability and Growth Pact (Maastricht criteria) allow, which specify that the public deficit should not exceed 3% of GDP. However, these figures represent only the first half of the year and cannot be extrapolated to the full year due to the significant fluctuations in revenues and expenses throughout the year.
Debate on the Debt Brake
The EU's rules for budget deficits and public debt aim to promote sound budget management. These rules are monitored by the EU Commission, which has initiated proceedings against countries like France and Italy for excessive deficits.
Germany stands out in contrast to these countries, with Finance Minister Lindner using this comparison as motivation to uphold the debt brake during negotiations on the federal budget. He argues that if Germany were to violate European rules as well, it would encourage other European nations to accumulate unsustainable levels of debt.
Instead of Lindner's stance, the coalition partners, SPD and Greens, are keen on utilizing every loan opportunity in the 2025 budget. They even propose declaring a state of emergency due to the Ukraine conflict. Post the upcoming federal election, SPD and Greens advocate for a debt brake reform.
The so-called "Experts" view the German debt regulation as excessively stringent. If it perpetuates, Germany's debt-to-GDP ratio could decrease excessively in the subsequent decades, dropping beneath the Maastricht threshold of 60%. Germany could then have squirreled away funds excessively, which could have been better utilized.
The financial sector might express concerns about the potential impact of Germany's economic downturn on businesses and investments. Due to the reduced investment in equipment and the decline in private consumption, economists within the financial sector may assess the risks and adjust their strategies accordingly.
