Dr. Cyrus de la Rubia
August 2023 "The Sick Man of Europe" is how Germany was recently referred to in the international press. That is an exaggeration, but people in this country have a keen sense that structural problems have built up in recent years that now urgently need to be addressed.
A comment from Dr. Cyrus de la Rubia
The title "Sick Man of Europe" is often bandied about. There was once a time when people talked about the Sick Man of the Bosporus, referring to the fragile state of the Ottoman Empire in the mid-19th century. When Britain lost its position as a colonial and world power in the 20th century, the British were given this title. The designation gained a certain level of prominence in the late 1990s, when the British magazine "The Economist" gave its big neighbor Germany the title of the "Sick man of Europe." After this challenge cup landed first with Portugal and then, according to the Economist, again with Great Britain last year, the question "Is Germany again the sick man of Europe?" once again adorned the cover of this magazine in the summer. In short: A certain inflationary use of this term can be observed.
Given the strengths that Germany continues to have - including a highly diversified economy with more than 1,000 so-called "hidden champions," a dual vocational training system that is the envy of most other countries, and a high degree of social peace - the label seems somewhat exaggerated.
Nevertheless, one thing is clear: Germany has serious problems - demographics and labor shortages, digitalization, infrastructure and bureaucracy are just a few key words, and if a slide into a downward spiral is to be prevented, urgent action must be initiated.
Germany's economic output is expected to be lower this year than last, making it stand out among the other G7 countries, all of which should show growth. In itself, this is not a disaster, especially as this development is not accompanied by mass unemployment as in the past and the other countries are by no means booming now. However, Germany also lags behind in a comparison over the last five years.
The reasons for this below-average performance are a mix of short-term developments and structural factors. Germany is known to have a particularly large industrial sector, which is usually seen as one of the country's strengths. However, the global weakness of this sector and, in particular, the disappointing growth of manufacturing in China means that Germany's export-dependent industry is suffering particularly badly. China has now slipped to fourth place as a destination for German exports. Two years ago, the country was still in second place. In terms of the economy as a whole, this is more noticeable than in other countries, where the importance of this sector is lower. The rapid rise in interest rates is also having a negative impact on capital-intensive industry to a greater extent than on the service sector, which is less dependent on borrowed capital. As it is particularly manufacturing companies that are energy-intensive - including the chemical sector, the steel industry and the paper, glass and ceramics sectors - Germany will be hit harder than its peers in Europe in this respect, too. At this point, it is also possible to dispel a prejudice: the cost of electricity for German companies is by no means one of the highest in Europe, but lies in the middle of the field, between the more favorable location of France and the more expensive Italy.
China's growth will not be able to stimulate Germany, and the level of interest rates will be determined by the politically independent European Central Bank and the capital markets. In the short term, politicians can only change electricity prices, for example with the help of an industrial electricity price (see my commentary of August 24 here).
In the long term, however, it will be more crucial for Germany as a business location to tackle the structural problems in a targeted manner. By 2030, 12 million employees will have retired, while only eight million millenials will be entering the labor market. That is a gap of four million people, which can confidently be estimated to be even larger due to the "experience" factor and the new attitude to the topic of "work-life balance".
There are various levers that can be used to address the demographically unfavorable situation. Targeted immigration, further training, an extension of working life, a larger share of women in working life and early childhood education are among them. Increasing the share of women in the workforce will only be possible if childcare options are drastically improved. Apart from that, early childhood education is considered by the German Institute for Economic Research, among others, to be one of the investments that brings the highest return. This seems plausible because in many cases, the opposite is otherwise likely to occur, namely neglect of children at this critical age. This, in turn, has a significant impact on the well-being and long-term ability and willingness of these individuals to pursue work later in life. With regard to immigration, the Institute for Employment Research estimates that around 400,000 people of working age would have to immigrate each year to make a substantial contribution to closing the demographic gap. The latter is also currently reflected in the fact that almost 800,000 vacancies are registered in Germany.
In order to manage this substantial immigration, the German government passed a Skilled Workers Immigration Act in June of this year. Among other things, it provides that immigration should be made easier for certain groups of people - including, for example, skilled workers and university graduates, as well as people with more than two years of professional experience. This is an important step. However, it is hard to imagine that it will be enough on its own. Presumably, the groups of people still need to be expanded and the bureaucratic burden further reduced in order for immigration to noticeably reduce the labor shortage. A fundamental problem in this context is the political explosiveness of the immigration issue, which is often used for political attacks.
There are some promising approaches to extending working lives. These include the idea that people who have reached retirement age can continue to work without any taxation. This would be an interesting incentive for many people to remain available to the labor market for longer. A further increase in the retirement age, on the other hand, would mean penalizing with deductions those who would like to continue to retire at 67 instead of 70 (here as an example). Promoting training measures that encourage structural change in the economy also belongs on the list of steps to combat the labor shortage.
Quite obviously, an investment backlog has built up over the past decades. In the area of transport infrastructure alone (rails, roads and bridges), the investment requirement is estimated at 370 billion euros. Now, one can confidently assume that this figure, which comes from a study commissioned by the Main Association of the German Construction Industry, the Association of German Transport Companies and the German Automobile Club (ADAC), contains a certain lobbying element and has certainly not been calculated down. But even if only half of this amount is assumed, it is still an indication of the need for action that has piled up in recent years. Added to this are billions in investments in the area of digitalization and in the area of power supply or the energy transformation.
In this context, people keep complaining that there is no money for this. Reference is made to the debt brake, but also to the difficult balance of responsibilities between the federal and state governments. Since several hundred billion euros in aid packages were put together during the Corona and energy crises, all citizens now know that the debt brake is not a fateful limit on the scope for action. Nevertheless, at 67% of GDP, Germany's public debt remains one of the lowest in the eurozone. One can create so-called special assets (“Sondervermögen”, as happened for the Bundeswehr, for example) or resort to investment companies, which, as state-owned enterprises, have their own debt capacity that does not count against the public debt ratio. One may complain about the resulting lack of transparency. However, this is a time when a certain pragmatism is called for, not ironclad and time-consuming - time is a resource we don't have right now - adherence to regulatory principles.
It should be gradually understood that there are two types of debt: Those that are on paper and those that are not. The latter are the ones that all citizens feel when a train is canceled again, when they are stuck in traffic jams every morning, or when they are annoyed by the bike path that breaks off after 500 meters. The mass cancellation of school lessons and the fact that 50,000 young people fail to complete their schooling each year also belong in this category. These are the neglected investments of the past that produced good figures on paper but are now causing dissatisfaction, disenchantment with the state and lower productivity.
However, it is also true that money alone will not clear the investment backlog. Time and again, we read that planned funds are not being called up. While 28 billion euros (!) that Germany is entitled to under the EU Corona reconstruction fund remain unused primarily for political reasons (certain reform conditions have not yet been met), it is often purely bureaucratic causes that lead to years of delays in investments and not just the lack of money.
The difficult division of responsibilities between the federal, state and local governments is, along with the shortage of skilled workers, the main reason for the lack of investment. This is where comprehensive state reform would have to come in. 16 different building ordinances and 16 different school policies are just two examples of the inefficiencies that, for all their love of federal structures (and which do indeed have many advantages over centralism), need to be put to the test. This and progress in digitalization are likely to be the most important levers for relieving citizens and businesses of unnecessary bureaucracy.
The tasks are great, but they can be solved. In many cases, politicians are standing in their own way, either because of ideological blinkers or because they are afraid of losing votes in the next state and federal elections. We are not yet the sick man of Europe. Every effort should be made to prevent a slide into such a situation.