Cracks in the German economic miracle

Germany’s economy keeps on growing. Since the plunge of 2009 in the aftermath of the financial crisis, its economy has realized a continuous economic upswing. In 2017, GDP increased by 2.2 percent – stronger than in 2016. Total employment has reached an all-time high with nearly 44.7 million employed, an increase of 1.5 percent compared to 2016. Some are talking about a jobs miracle, with nearly 800 thousand vacancies and unemployment rates at its lowest level since German unification.

The key drivers of the boom are the overall strength of the global economy, which has allowed competitive German firms to boost their exports, and the rise in private consumption, which mainly supports the service sector. Because of these developments and of the low interest rates, the public sector is amassing huge surpluses. In 2017 alone these will amount to 38 billion euros, despite the fact that public expenditures also increased by nearly 4 percent year-on-year.

After the German federal elections last September and the prospects for a so called “Jamaica-coalition,” the private sector had expected further economic stimulus. The decision of the FDP to flee from the responsibilities of government means that to this day, Germany lacks a stable government. This poses a threat to the continuation of the German boom. Industrial production for instance had already started to slightly decline late last year.

Why is government formation proving so difficult when the economy is doing so well? Why did the two parties making up the Grand coalition, which governed for eight of the past twelve years, cumulatively lose 14 percentage points electoral support?

Other than the “jobs miracle”, there is another story to be told about the German economy. It starts with pointing out that nearly 13 percent of voters – nearly equal to the loss of support for the CDU/CSU and the SPD – opted for the far-right populists of the AfD (Alternative for Germany).

Past economic growth has been unevenly distributed and the economy in the eastern part of the country (the former GDR) is still lagging behind. Since the financial crisis, pay increases for the lower middle class individuals have hardly been keeping pace with inflation – a trend that seems to have persisted in 2017. For members of this group, it has become increasingly difficult to pay rent, to own a car and to raise a family – in particular when they live in a metropolitan area. They have not benefited from the German prosperity of recent years. Many of them voted for the AfD, in order to demonstrate their sense of being unjustly treated.

For the sake of social peace and stability, it is critical that the next German government initiates in 2018 measures for a fairer distribution of income. This calls for more than just redistribution policies. In particular, educational opportunities are key if the squeezed middle class and those in even more precarious economic circumstances are to develop skills qualifying them for better-paying jobs.

In the interests of improving access to educational opportunities, the German education system requires robust re-regulation. Currently this system is divided into sixteen different sub-systems (one for each German Länder), often turning mobility within Germany for families with schoolchildren into a nightmare. The country also needs substantial investment in digital infrastructure and a digitization strategy: Germany is badly lagging behind in this field, putting the global competitiveness of German firms at risk. At the same time, the next government will need to deal with climate issues and the diesel scandal that has rocked the automobile industry, as well as with questions about future strategies for deeper integration of the eurozone and the European Union. The French president is waiting for the German response to his initiatives.

There are further challenges. Skilled labor is increasingly in shortage in Germany. The new government needs finally to introduce an immigration law, along the lines of for instance the Canadian system, to attract high-skilled migrants to the country. At the same time, AfD voters need to be reassured that this law will not exacerbate the risks to their jobs. The need for a focused migration policy is also closely tied to Germany’s demographic challenges. Currently there are discussions of increasing the retirement age to 70 years, as one way to deal with the growing problem of an ageing population.

To deal with all these pressing matters, Germany needs as soon as possible a stable government, led by party heads who are willing to bear their responsibilities, work on new ideas and implement unpopular but necessary reforms in the year 2018.

* Alexander S. Kritikos is research director at the German Institute for Economic Research (DIW Berlin) and professor of economics at the University of Potsdam.