Germany's Economy: Successes and Challenges

Why Germany Won't Ever Quit the EU

germanys economy
Hamburg has been the trading capital of Germany for centuries. Photo: Westend61/Getty Images

Germany's economy produced $3.479 trillion in 2016 as measured by gross domestic product. It's the world's sixth-largest economy after China, the European Union, the United States, India, and Japan. To compare GDP between countries, you must use purchasing power parity.

Germany's GDP growth rate was 1.9 percent, better than the 1.5 growth rate in 2015. It's the same as the EU average, and better than the 1.6 percent U.S. rate.

Germany's GDP per capita was $48,400, better than the 2015 average of $48,000.  It's lower than the $57,400 enjoyed in the United States but better than $39,200 in the EU overall.

Before the 2008 financial crisis, Germany's growth was usually less than 1 percent per year, for three reasons:

  1. Modernization of Eastern Germany cost $70 billion per year at first. By 2008, it had dropped to $12 billion.
  2. High unemployment (9.5 percent) and an aging population (20 percent age 65+). That means Germany depletes its Social Security fund faster than it can add via payroll taxes.
  3. Germany managed to get its budget deficit below 3 percent of GDP, as mandated by the EU. It lowered fiscal spending, which is what it advocates to solve the Greece debt crisis.

Type of Economy 

Germany has a mixed economy. It allows a free market economy in consumer goods and business services. But the government imposes regulations even in those areas to protect its citizens.

Germany has a command economy in defense since everyone receives the benefit, while those with higher incomes pay more in taxes. The government provides health care insurance and education. That means you pay in according to your income, and receive benefits according to your need. 

Benefits From Eurozone Membership

Germany benefits from its membership in the EU and its adoption of the euro.

Like many other eurozone members, the power of the euro means interest rates stay low, which spurred investment.

In fact, many say Germany profits the most from its membership. Its strong manufacturing base means it has plenty to export to other members of the eurozone and does so more cheaply. That gives German companies a competitive advantage that only improves over time. That creates prosperity, giving German consumers more money to spend locally. As a result, the domestic market recently became a more significant driver of economic growth.

German Chancellor Angela Merkel

Current Chancellor Angela Merkel was a low-key physicist and economic reformer from East Germany. She won the 2005 election by promising reform to lower the 11.5 percent unemployment rate

The recession allowed Merkel to successfully push through stimulus efforts and tax cuts.This increased Germany's budget deficit to 3.3 percent, violating the EU's 3 percent debt-to-GDP ratio. Merkel had to impose austerity measures such as a sales tax increase and higher taxes on the wealthy. That's why she pushed for similar measures to resolve the Greece debt crisis. Opposition to her leadership delayed resolution, which resulted in its expansion to a eurozone debt crisis

Refugee Crisis

In 2015, 1.2 million refugees from the war-torn Middle East applied for asylum in Europe. Nearly 75 percent were men, and 40 percent of them were between 18-34. That's because the trip itself is dangerous. But that created a problem for Germany.

On New Year's Eve 2016, a gang of young refugees robbed and sexually assaulted more than 600 women. There was a large political backlash. Many countries sealed off their borders to new refugees. As a result, 8,000 migrants were marooned in Greece. The EU signed an agreement with Turkey to take back refugees who had reached Greece. In return, the EU would pay Turkey 6 billion euros.  

How Germany Overcame Historic Struggles With Unemployment

Unemployment in 2016 was 4.2 percent. That's better than the 7.7 percent rate during the recession.

Germany has struggled with high unemployment because of historical and cultural reasons. First, Germany's laws made it difficult to lay off workers and lower wages. Second, the reunification of East and West Germany after the fall of the Berlin Wall heightened unemployment. The economy had to absorb workers from the former Communist bloc. Third, the culture supports saving for a rainy day rather than spending that would boost the economy.

Unemployment would have been worse in Germany were it not for reforms launched in 1998-2005. The government subsidized businesses to reduce working hours. That kept people employed during the recession, although only part-time.

German-Russian Relations Are Unique

While President of the EU in 2007, Merkel met with Russia’s President Vladimir Putin at his private country retreat, Bocharov Ruchei in Sochi. Merkel and Putin enjoyed a relatively cordial relationship. That was thanks to Putin’s fluency in German and Merkel’s schooling in then-Communist Eastern Germany, which gives her a good command of Russian.

Merkel arrived just one week after Russia cut off gas supplies to Belarus, which carried the main pipeline to Europe. Merkel got assurances that Putin’s pipeline politics would not affect the EU's or Germany's energy supply. Russia does not want to jeopardize German foreign direct investment in Russia or bilateral trade.Putin also agreed to:

  • A new EU-Russia Partnership and Cooperation Agreement.
  • Acceleration of a gas pipeline construction to Germany under the Baltic Sea.
  • Construction of an oil pipeline leading to Russia's Pacific Coast, to avoid going through “transit countries” Ukraine, Belarus, and Poland.
  • Establishment of a gas reservoir in Germany, adding a new distribution center for Russian gas.