Germany is at an important crossroads. The nation has to contend with an economy that is rapidly approaching stagnation and an overall growth path that is increasingly in doubt. Recognizing the current size of Russia’s aggression, the German government is undertaking historical fiscal war chests to resurrect her economy. With the debt-to-GDP ratio already near 63% and rising to 71% by 2030, the public deficit is set to go over 3% of GDP in 2025. Analysts have cautioned that without releasing an ambitious and specific structural reform agenda, these steps will only be a short-lived shot in the arm.
Germany’s economy is reeling from three years of historically unprecedented stagnation and record high business bankruptcies and lack of confidence. Today, as we’re likely all too aware, it’s apparently approaching a breaking point. The nation’s growth potential is still weak, slowly converging to a structural growth rate just above 1% by 2029. A significant labor shortage is on the horizon. Further complicating growth, 43% of employers can’t find the skilled workers they need to grow.
Fiscal Measures and Investment Surge
Germany, it seems, is taking an equally audacious leap with its federal investment. It will leap to €115.7 billion in 2025 and €123.6 billion in 2026, an astonishing increase from €74.5 billion in 2024. This fiscal “Big Bang” is intended to kickstart growth by increased spending on both defense and infrastructure. According to Lars Klingbeil, “By 2029, we will increase the federal government’s annual investments to almost €120 billion a year.”
Even with these ambitious plans, experts are warning that the benefits might not last long. Deutsche Bank points out that the latest positive revision to growth forecasts comes largely due to a positive shock from government spending. They argue that real sustainable growth will require addressing more profound structural challenges.
“The upward revision to our near-term growth forecast is largely due to the ambitious ramp-up in defence and infrastructure spending… the recovery continued in Q2, with our nowcast model pointing to 0.2% q/q,” – Deutsche Bank
The German government is reset expecting these investments will relieve some economic stresses. They need to be paired with complementary reforms to boost the labor supply and improve productivity overall.
Economic Challenges and Inflation Pressures
Germany’s economy is at risk of recession. Simultaneously, underlying inflation is increasing and already projected to remain above 2% for the next 10 years at least. This inflationary pressure comes from public sector wage increases and continued strife in the construction industry. With continued cost increases, consumers’ purchasing power may begin to erode, risking another step backward before we even begin to see a full recovery.
It has a AAA rating from all four of the big rating agencies—S&P, Moody’s, Fitch and KBRA. Germany’s robust economic position allows it to borrow at much cheaper rates than its fellow EU members. This comparative advantage puts the country in an enviable position in the current economic climate. Germany’s growth prospects remain the weakest in Europe.
Recently, the DAX 40 appeared on analysts’ radar for achieving an all-time high. This accomplishment does not reflect the economic hardship that much of Germany’s sectors are experiencing today. The stock market’s overall performance seems at odds with the economic realities below the surface.
“The supply side is thus unlikely to support growth rates of more than 1% sustainably… raising structural growth to levels around 2% will take ambitious supply-side reforms alongside the fiscal expansion,” – Deutsche Bank
Looking Ahead: The Road to Recovery
Germany is starting down a long overdue path of fiscal expansion. The most crucial question is whether these unprecedented measures will lead to meaningful, permanent improvements to the economy as a whole. For policymakers at all levels of government, the challenge is twofold: addressing pressing immediate recovery needs, while establishing a clearer foundation for long-term prosperity.
Public investment will soon increase, providing much-needed short-term relief. Yet in the absence of much needed labor market reforms and realistic plans to raise productivity, sustainable growth will be limited.
Germany’s economy expanded by 0.4% q/q in Q1 with more recent data suggesting that this recovery momentum carried on through Q2. Experts are understandably hesitant to extrapolate these gains too far into the future. America can’t sleepwalk its way past its growing labor shortage and inflationary pressures. The country needs to act and mean it. This will be instrumental in determining its economic trajectory.