Make it or brake it

After a period of high political fragmentation and uncertainty, Germany urgently needs greater stability and reduced uncertainty to restore its economic footing. After contracting in 2023 by -0.1%, the country's economy faced challenging conditions again in 2024. The upcoming elections and the threat of a trade war with an increasingly protectionist US could halve the projected GDP growth in 2025 to just +0.4%, while also weighing on GDP growth for 2026 (+0.9%). The German economy requires reorientation and while a new government is expected by mid-2025, it will face similar challenges as its predecessors (i.e., increased global fragmentation, protectionism that threatens its export-driven model and competition – especially from China – along with increased energy costs and pressure on the manufacturing sector). The next German government must implement substantial structural reforms to improve economic prospects and tackle low productivity, employing a combined strategy of increased spending alongside competitiveness-focused reforms, although significant fiscal loosening seems unlikely even after the elections. To address pressing budget gaps and invest in the green transformation, infrastructure and innovation, Germany needs a comprehensive Agenda 2030 that unites political and industrial stakeholders. Additionally, demographic reforms and tax changes are essential for boosting competitiveness. In an increasingly fragmented world, Germany needs to transform its export-oriented economic model, embracing more European solutions.

German insolvencies remain on the rise since the reinstatement of the insolvency laws, which had been temporarily suspended during the Covid-19 pandemic and the energy shock crisis due to Russia’s invasion of Ukraine and more stringent financing conditions. The sectors facing the greatest challenges include trade, hospitality, professional services and construction. A slight easing is anticipated in 2025 and insolvency rates are projected to decrease by -3.9% in 2026, bringing the total down to 22,100 cases.

Similarly to other Eurozone economies, inflation pressures in Germany are easing in the energy and food sectors, despite some short-term volatility. However, downside risks remain, particularly from core inflation, with services inflation proving to be especially persistent. In 2025, inflation will only see a slight decline to 2.1%. This is attributed to a temporary increase in food prices and gradually easing price pressures on services. However, from 2026 onwards, Germany's inflation rate is expected to gradually return to 2%. This is largely due to two key factors: the earlier monetary policy tightening and decreasing price pressures from labor costs. Wage growth, which is particularly significant for the labor-intensive services sector, surged sharply to +5.9% in 2023. For 2025, we project wages to rise by +2.8%, followed by +2.4% in 2026.

Germany offers a dynamic business environment, underpinned by a strong industrial base and a highly skilled workforce. Renowned for its stability and commitment to sustainability, the country faces challenges such as regulatory complexities and rising energy costs that necessitate adaptation and innovation for businesses to stay competitive. Additionally, uneven performance across different sectors and regulatory areas presents obstacles. In response, new initiatives are being implemented to enhance regulatory frameworks, making them more conducive to competition while reducing administrative burdens. The current initiatives aimed at reducing bureaucracy further enhance a vibrant business landscape.

Following the collapse of the German coalition, snap elections are set for February 2025. Germany is likely to have a CDU-led coalition government in place by mid-2025. This coalition may prove to be more stable and functional than the outgoing one. However, it will still encounter similar constraints and challenges, particularly in light of a more protectionist US administration.