Continued misery in Germany

One could argue what the most self-destructive country in Europe is. There are a few contenders. Russia is clearly in a league of its own, but otherwise the race is pretty tight between Great Britain, France and Germany. In particular Germany is interesting as they have been doing well since the war and have huge potential to be an economically powerful country.  The German economy is now in its seventh year of stagnation. Volkswagen is planning to eliminate up to 100,000 jobs globally and close four German factories in the largest restructuring in the company’s history. Driven by rising labor costs and stiff competition from Chinese rivals, the cuts will affect multiple brands across the group. The picture looks worse still once you examine the components of gross domestic product, investment is on a continuous downward trend, while the only significant positive contribution comes from government consumption. Many had hoped that the loosening of the debt brake in March 2025, which had de facto prohibited the debt financing of public investment, would be the game changer. Yet forecasts for 2026 point to meagre growth of only 0.5%.

There are many reasons for this dismal performance. The sequence of global shocks, Covid, the conflict in Ukraine, Trump’s tariff war and, weak political leaders, mass immigration, an expense energy strategy, the Iran war, has hit Germany, with its focus on exports and industry, harder than other EU countries. At the same time, its automotive sector has come under attack from the “China shock 2.0”, unable to match Chinese technologies in electric batteries and digitalization. In recent weeks, the weak German government, a coalition between the Social Democrats and the conservative CDU/CSU, has tried to turn things around, announcing fundamental reforms of the social security systems and a package of measures to stimulate the economy, the 34-point Programme for Upswing and Employment.

An important factor behind the government’s upbeat mood was the set of recommendations made by a Pension Commission, installed by the government in December 2025. Conceptually, the most important is the introduction of a mandatory contribution of 2% per cent of salaries to a government-run pension fund, as practiced in Sweden. Other recommendations include raising the retirement age from 67 in 2031 to 67½ in 2041, and cutting the benefit of two-year early retirement for workers with 45 contribution years.

But while the pension scheme is a central pillar of a social market economy, the commission’s recommendations will mainly take effect in the 2030s and 2040s, when pensioners can benefit from the returns on their capital investments. In the nearer term, however, the mandatory payments to build up the capital stock will dampen economic activity, already burdened by higher social security contributions, especially in 2028. The Macroeconomic Policy Institute (IMK) estimates that, in the five years following the increase in contributions, GDP will be reduced by one percentage point and about 250,000 jobs will be lost. Unfortunately, this saving will do nothing to help finance German firms, the proceeds of the forced saving are to be invested largely abroad, in order to generate high returns.

But will the Programme for Upswing and Employment deliver the hoped-for turnaround? The most direct impact could come from a cut in income tax, which mainly benefits families with children. At the same time, the top marginal rate was raised from 45 to 47%. The overall tax reduction in 2026 amounts to 10 billion euro, about a quarter of a per cent of GDP. Moreover, much of the cut simply compensates for higher inflation.

A hotly debated measure is the plan to abolish sick notes issued by telephone. As a result, sick workers will need to submit a certificate of incapacity for work from the first day of illness. This will be difficult to implement in practice, since it is already hard to secure a timely appointment with a physician in Germany. One can debate whether the country’s sickness rate is excessively high, but this measure will certainly not boost the economy. If anything, it will add to the very bureaucratic burdens that are regarded as one of the main obstacles to growth.

Not surprisingly, the main weakness of the German economy is the decline in corporate investment. This is all the more troubling because global competition demands a fundamental technological transformation in Germany, towards innovative business models. The programme explicitly acknowledges this need: “We will consistently promote future-oriented sectors, including the automotive sector, the chemical and pharmaceutical industries, clean tech, the circular economy, mechanical engineering, battery cell and semiconductor production, and the entire field of artificial intelligence.” Yet it offers no quantitative commitment to match the rhetoric. In the 2027 budget of the special fund for infrastructure and climate neutrality, the appropriation for research and development amounts to a mere 1.7 billion euro. That does not stop the finance ministry from advertising it as a 60% increase on the even more inadequate 1.1 billion euro allocated in 2026.

Overall, it is unclear how the reforms and the Programme for Upswing and Employment will fundamentally contribute to a turnaround in the German economy and, above all, to its urgently needed technological transformation. The lack of clear incentives for investment reflects a broader absence of any comprehensive strategy for innovation and transformation in Germany. On top of this, the tax burden on companies and government subsidies will not be reduced.

Higher government spending on defense and infrastructure might generate some growth in the coming years. But the German economy continues to move ahead without a clear vision of its future. Once again, a weak German government is putting lipstick on a pig and making superficial and cosmetic changes to the economy and does not address the country’s fundamental flaws. Bottom line is that immigration is too high and too expensive, taxes are too high, energy costs are too high making corporations uncompetitive, productivity is too low, Germany’s obsession with helping Ukraine is hurting the economy, and there is no clear economic direction. And again, taxes are too high but needed to pay for extravagant entitlements. The misery in Germany will continue and most likely getting worse.