German Economy

Germany has a social-market economy that combines free enterprise and competition with a high level of social services. The economy is the world’s third largest, when measured at market exchange rates, and the fifth largest, when using purchasing power parity. Reflecting a social compact between employers and employees, workers’ representatives share power with executives in corporate boardrooms in a system known as co-determination, or Mitbestimmung.


The performance of the German economy is a study in contradictions, with indisputable strengths in exports and manufacturing, but also troubling weaknesses in the labor market and federal budget. Exports are responsible for one-third of total economic output, and at the prevailing dollar-euro exchange rate, no country exports more merchandise.
In 2003 Germany edged out the United States in merchandise exports (US$748 billion for Germany vs. US$724 billion for the United States, according to the World Bank) and accounted for 10 percent of total world trade. In the same year, illustrating the competitiveness of its export sector, Germany posted a trade surplus. German manufacturing excels in the production of automobiles, machine tools, and chemical products.

By contrast, weak domestic demand has suppressed overall economic output, which rose by 1.7 percent in 2004 after two years of zero growth but was slowing again in 2005. In the summer of 2005, the International Monetary Fund (IMF) forecast growth of 0.8 percent during the year and 1.2 percent in 2006, 0.7 percentage points lower than the prior forecast.
These projections placed Germany in last place among industrialized nations in the IMF survey. Most ominously, in March 2005 Germany’s seasonally adjusted unemployment rate increased to 12 percent, a post-war record. The unemployed totaled nearly 5.2 million people, an amount not seen since the Weimar Republic. After peaking in March, however, unemployment moderated to 11.2 percent, or 4.65 million people, in September 2005. Only one-third of the German population is employed full-time.
Unemployment is linked to lagging economic development in the former East Germany, strict regulations, rigid labor market conditions, and the impact of globalization. Regarding globalization, competition from cheap labor in countries like China and India is only part of the story. The private sector needs to look no farther than Eastern Europe, particularly the neighboring countries of Poland and the Czech Republic, for an attractive investment climate and extremely low labor costs. The fall of the Iron Curtain, which accompanied German reunification, and the expansion of the European Union (EU) into Eastern Europe on May 1, 2004, have placed the livelihoods of many German workers in jeopardy.

Germany is seeking to ease labor market rigidities through a reform program known as Agenda 2010. This program is designed to reduce the overly generous and costly benefits associated with jobs (and therefore impeding the creation of new ones). These benefits include short working hours and long vacations, unemployment insurance, pension rights, paid sick leave, and comprehensive health insurance. Agenda 2010 also reduces the marginal tax rate to a maximum of 42 percent in the highest tax bracket and 15 percent in the lowest tax bracket.
Unemployment is about 18 percent in the new states in the East, where 14 years of massive investment from the West have failed to produce prosperity. This enormous inter-German transfer of wealth, which totaled US$1.6 trillion cumulatively from 1991 to 2004, or about US$130 billion per year, has exceeded the growth rate of the states in the West and thus has eaten away at the substance of the West’s economy. Furthermore, the combined impact of slow economic growth, tax cuts, and the internal wealth transfer has had a negative impact on Germany’s budget deficit, which has exceeded the 3 percent of gross domestic product limit established by the EU’s Stability and Growth Pact each year since 2002.

Gross Domestic Product (GDP)
In 2004 Germany’s GDP was nearly US$2.2 trillion. Per capita GDP was US$31,992, at current exchange rates. Using purchasing power parity, per capita gross national income was US$26,220 in 2002, putting Germany in twentieth place in the world. In 2003 services constituted 70 percent of GDP; industry and construction, 29 percent; and agriculture, the remaining 1 percent.

Government Budget
Since 2002, Germany has run a budget deficit in excess of 3 percent of gross domestic product (GDP), in violation of the European Union’s Stability and Growth Pact. In 2004 the budget deficit was about 3.7 percent of GDP. However, some forecasters expect the deficit to decline below 3 percent of GDP in 2006.

Inflation
Inflation is under control. In 2003 consumer price inflation was only 1.1 percent.