Is Germany's industrial economic model in danger?

In recent months, many have proclaimed the death of the German business model with headlines about deindustrialization. Looking back, the country has relied on engineering, high-end exports, and cheap Russian gas to power its energy-intensive manufacturing.

In the runup to parliamentary elections on February 23, much of the focus has been on migration, but Europe's biggest economy has been in a recession for the past two years. The likely winner of the election, Friedrich Merz, the head of the conservative Christian Democratic Union (CDU), faces big challenges.

Last week, Porsche announced it would lay off 1,900 workers when a job guarantee ran out and porcelain manufacturer Rosenthal announced it would close one of its two factories by the end of next year.

Overall, since the start of the COVID-19 pandemic, Germany has lost almost a quarter of a million manufacturing jobs, according to the Financial Times.

"Unemployment has been rising for months and this development will continue in the coming months, so that we will probably exceed the three million unemployed mark," said Klaus Wohlrabe, a researcher at the Munich-based Ifo Center for Macroeconomics and Surveys.

Why is Germany in the doldrums?

German businesses have many woes. "One of the biggest problems right now is uncertainty," said Wohlrabe, head of Ifo's surveys. The country is in the middle of a government transition, and no one knows what the coming economic agenda will look like.

"Companies are putting investments on hold and waiting. The same is true for consumers who are worried about losing their jobs and are more careful when shopping and more likely to save," Wohlrabe told DW.

Even if the next German government can reassure businesses, global political alliances are undergoing fundamental change. No one knows what US President Donald Trump is planning while pushing his "America First" policies.

Will the US impose general tariffs on everything entering the country, just hit some countries or specific industries, like the German auto industry? The potential for disruption is high, but whatever happens neither businesses nor politicians are prepared, argues Wohlrabe.

More than just economic uncertainty

German industrial production peaked in 2018 well before recent shocks like the COVID pandemic, supply chain problems and the European energy crisis, says Klaus-Jürgen Gern, a researcher at the Kiel Institute for the World Economy. Last year, German industrial production was down by 4.5%.

This weakness is broad, but "particularly pronounced in German core export industries automobiles and machinery," Gern told DW. Pharmaceuticals, aircraft and ships are a few positive exceptions to this decline. 

Gern says problems like regulatory burdens, declining public infrastructure, and general uncertainty around economic policy are homegrown. But he points to an additional problem: demographics.

"As the baby boomer generation is leaving the labor market over the next 5-10 years the lack of skilled workers that was already a severe problem in recent years will only increase, which makes companies think twice about investments in domestic production capacities," Gern said.

If the country cannot attract foreign workers, this demographic slowdown could "reduce potential output growth in Germany to a crawl," he warned. 

The high cost of energy in Germany

Germany uses a lot of energy — particularly electricity and gas — to run its big factories, electric vehicles, data centers, and other modern technologies.

For years, German businesses depended on cheap gas piped from Russia. But Russia's invasion of Ukraine at the beginning of 2022 put an end to that as Germany turned down Russian natural gas.

It was an abrupt change to the country's energy supply. Germany was forced to look elsewhere for energy and prices went up.

"The main source of energy price increases is higher gas prices, due to the fact that the EU imports far less Russian gas than pre-war and has now switched to importing more expensive liquefied natural gas (LNG) from global markets," said Conall Heussaff, a research analyst at the Brussels-based Bruegel think tank.

"Higher gas prices also drive up electricity prices, as gas is still a key component in electricity generation," Heussaff told DW. "As the economy becomes more electrified, it makes sense that companies would make investments in regions with the cheapest electricity," Heussaff said.

Tough competition direct from China

The other big disruption to the German industrial model is China's growing prowess. At the beginning of this century, China was still making and exporting consumer electronics, clothing and household items. It was a big buyer of German engineering. For many German companies, the Chinese market was the most important source of growth.

Now, China is making its own vehicles and other goods that directly compete with Germany. Chinese-made goods are taking over its domestic market and pushing far beyond.

Germany can increase its competitiveness though, says Klaus Wohlrabe. The country should "prioritize investments in education, infrastructure, climate protection and defense while reducing inefficient subsidies and social transfers," he said. A diversified and secure energy supply is essential.

Shoring up public infrastructure and guaranteeing a reliable energy supply at a decent price are important, agrees Klaus-Jürgen Gern. To help small and medium-size enterprises thrive, the government also needs to improve the general business environment, rather than focusing on attracting select lighthouse projects, thinks Gern.

"Lowering corporate taxes and improving investment incentives is only one element here," he said. Reducing red tape, bureaucratic hurdles and reporting requirements are other ways to get German industries back on track.

Edited by: Uwe Hessler