Germany's Economy Is Broken. There's No Plan B.

Summary

Podcast Summary: "Germany's Economy Is Broken. There's No Plan B."

Podcast: The Journal
Host/Authors: Jessica Mendoza, Kate Linebaugh, Ryan Knutson
Episode Title: Germany's Economy Is Broken. There's No Plan B.
Release Date: February 21, 2025

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Introduction

In this compelling episode of The Journal, hosts Jessica Mendoza and contributors delve into the alarming decline of Germany's robust economy. Known globally for its luxury automotive industry, Germany's traditional economic model centered on manufacturing and exports is now facing unprecedented challenges. The episode explores the root causes of this downturn, its broader implications for Europe, and the uncertain future that lies ahead.

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Germany's Economic Backbone: The Automotive Industry

[00:05] Jessica Mendoza opens the discussion by highlighting Germany's longstanding reputation as the epicenter of luxury automotive manufacturing. She mentions iconic brands such as BMW, Mercedes-Benz, Audi, and Porsche, emphasizing that these companies have historically driven Germany to become the world's third-largest economy.

Tom Fairless elaborates on this by stating, “The business model that Germany has used to get rich since World War II was based on exporting to the world.” [00:49] However, since 2018, this model has been faltering, marked by a gradual decline in manufacturing output and two consecutive years of economic contraction.

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Case Study: Ingolstadt and Audi's Struggles

The episode takes a closer look at Ingolstadt, a city heavily dependent on Audi, one of Germany's flagship automotive manufacturers.

[03:13] During a reporting trip, Tom Fairless describes Ingolstadt as a prosperous town with a beautiful old town and seasonal attractions like ice rinks and Christmas markets. However, the city's economic vitality is intricately tied to Audi, which employs about 40,000 people locally. This dependency classifies Ingolstadt as a "company town."

[06:23] The repercussions of Audi's decline are stark. The company reported a 91% decline in operating profits for its third quarter of 2024, leading to significant job cuts and a ripple effect on local businesses. A hotel owner noted, “Her revenues are down about 10% since 2019,” [06:49] while a carpenter observed a drying up of client work, particularly affecting less experienced tradespeople.

The town's mayor faces financial strain due to the loss of tax revenue from Audi, leading to cuts in public services and fears among residents that Ingolstadt could become "the next Detroit." [07:17]

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External Pressures: China and Energy Costs

Germany's challenges are compounded by geopolitical and economic shifts:

1. China's Rising Competition:

   • [04:56] Tom Fairless explains that China has transformed from a major importer of German goods to a formidable competitor, especially in the automotive sector. In 2022, China's auto exports surpassed Germany's, with a particular edge in electric vehicles.
   • China’s ability to produce high-quality vehicles at lower costs has flooded global markets, severely impacting German manufacturers.

2. Energy Crisis:

   • [05:40] The war in Ukraine exacerbated Germany's energy woes by disrupting gas supplies from Russia. A Texas-based chemicals manufacturer operating in Germany revealed, “He can pay 10 times or more as much for energy in Germany as he pays in Texas,” [05:40] highlighting the crippling effect of skyrocketing energy costs on manufacturing competitiveness.
   • High energy expenses are directly inflating the cost of German cars, making them less competitive internationally.

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Potential U.S. Tariffs and Further Economic Strain

Adding to the turmoil, President Trump hinted at significant tariffs on German auto imports into the U.S.:

[08:38] Jessica Mendoza reports, “What if your business could see beyond what is and into what can be?” indicating potential disruptions. Tom Fairless underscores the severity: “The US is incredibly important to German manufacturers, and so any tariffs that President Trump would impose on Germany would be a problem.” [08:58] Speculated tariffs could increase from the current 2.5% to around 25%, which would further strain an already fragile economy.

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Political Ramifications: Germany's Imminent Election

The economic crisis has propelled Germany towards a pivotal national election, with voters increasingly dissatisfied with Chancellor Olaf Scholz’s incremental approach to economic policy.

[11:28] Bertrand Benoit, Germany’s bureau chief, comments, “The economy has shrunk for the past two years and these two years of recession in a row, it's not really something that German voters have any experience of.” Voters are demanding substantial reforms rather than the minor tweaks Scholz has implemented.

Candidates propose diverging strategies:

1. Alice Vital (AfD):

   • Represents a populist right-wing stance with controversial proposals.
   • Advocates for a smaller state, lower taxes, deregulation, and notably, Germany exiting the European Union to revert to its own currency.
   • [13:57] Vital aims to revitalize Germany’s export model through these modifications, although polls suggest her party may not secure enough seats to lead the government.

2. Friedrich Merz (CDU):

   • As the likely head of the new government, Merz believes in preserving and slightly modifying Germany’s existing economic framework.
   • [14:45] Merz contends that the German model isn’t entirely broken and can be fixed by reducing business costs, lowering taxes, and cutting red tape to enhance competitiveness.

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Economic Policy Dilemma

A fundamental conflict emerges in proposed economic strategies:

[15:22] Bertrand Benoit explains the paradox: to boost competitiveness by making the state smaller and reducing taxes, Germany simultaneously needs to increase government investment in areas like infrastructure, education, and research. This dual requirement of shrinking the state while expanding its investment capacity presents a significant policy challenge that current political parties struggle to reconcile.

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Implications for Germany and Europe

The episode concludes by contemplating the broader consequences if Germany fails to navigate this economic crisis:

[16:38] Bertrand Benoit warns that Germany’s unique dependence on exports and global markets might limit its ability to sustain internal growth through consumption and investment alone. This could lead to reduced national wealth and diminished economic influence.

[17:38] The fallout would not remain confined to Germany. As Europe’s largest economy, a weakened Germany would trigger a domino effect, adversely affecting neighboring countries dependent on German manufacturing and economic stability. Job losses and business insolvencies could ripple across the European Union, undermining collective economic strength.

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Conclusion

The Journal episode titled "Germany's Economy Is Broken. There's No Plan B." provides a thorough examination of the structural challenges facing Germany's economy. From declining automotive exports and rising competition to energy crises and potential geopolitical tensions, Germany stands at a critical juncture. The outcome of the national elections could determine whether Germany can implement the necessary reforms to stabilize its economy or face prolonged decline with significant repercussions for Europe and the global market.

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Notable Quotes

• “The business model that Germany has used to get rich since World War II was based on exporting to the world.” — Tom Fairless [00:49]
• “If Germany sneezes, Europe catches the cold.” — Tom Fairless [01:21]
• “Her revenues are down about 10% since 2019.” — Hotel Owner, Ingolstadt [06:49]
• “The US is incredibly important to German manufacturers, and so any tariffs that President Trump would impose on Germany would be a problem.” — Tom Fairless [08:58]
• “The economy has shrunk for the past two years and these two years of recession in a row, it's not really something that German voters have any experience of.” — Bertrand Benoit [11:28]

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Final Thoughts

This episode serves as a crucial analysis of Germany's economic predicament, offering listeners a nuanced understanding of the intertwined factors contributing to the current crisis. It underscores the urgency for strategic policy interventions and the potential global impact of Germany's economic trajectory.

Transcript

[Jessica Mendoza]

For decades, Germany has been known as the king of luxury cars, the soul of BMW.

[Bertrand Benoit]

Where will you find it?

[Jessica Mendoza]

At Mercedes Benz?

[Tom Fairless]

We've always been a. It's a funny thing about a Porsche. There's the moment.

[Bertrand Benoit]

You know, this is Audi.

[Jessica Mendoza]

These luxury cars are at the heart of Germany's economy, which is the third largest in the world. Over decades, Germany developed an economic model based on manufacturing and exporting products like these. And it turned the country into a global powerhouse. But that model, which has been so effective for years, is on the verge of falling apart. Our colleague Tom Fairless covers the German economy.

[Tom Fairless]

The business model that Germany has used to get rich since World War II was based on exporting to the world. And that model has broken down since 2018. There's really been a steady downward trend in manufacturing. And the economy now on the back of that has contracted for two years in a row. And no one really seems to know what to do next.

[Jessica Mendoza]

Unless there's a turnaround, the fallout will reach far beyond the country's borders.

[Tom Fairless]

It's central to Europe's economy and especially to Europe's big manufacturing sector. And it's deeply intertwined with other countries like Italy and Eastern European countries like the Czech Republic. So if Germany sneezes, Europe catches the cold.

[Jessica Mendoza]

Welcome to the Journal, our show about money, business and power. I'm Jessica Mendoza. It's Friday, February 21st. Coming up on the show, Germany's economic model is cracking and there's no plan B.

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[Jessica Mendoza]

Last December, Tom took a reporting trip to a city in the south of Germany called Ingolstadt.

[Tom Fairless]

It's got this beautiful old town at this pristine white castle. When I was there, there was an ice rink, a seasonal ice rink in front of the castle. There were Christmas markets all around town. It's a prosperous town.

[Jessica Mendoza]

Like many other cities in Germany, Ingolstadt relies on just one company. In this case, it's the luxury car manufacturer Audi.

[Tom Fairless]

So audi has about 40,000 employees in town and a lot of the rest are car suppliers or providing services that cater to those to the Audi workers. Hotels, restaurants, that kind of thing. So it's really centered on this one company.

[Jessica Mendoza]

So it's kind of a company town.

[Tom Fairless]

It's kind of a company town.

[Jessica Mendoza]

Ingolstadt's fortunes have been tied to Audi for 75 years. In the 60s, the company was acquired by Volkswagen and since then, most of Audi's cars have been exported. Nearly 90% of Audis are sold outside of Germany. And its biggest foreign market for many years has been China. How reliant was Audi? How reliant were they on exports to China?

[Tom Fairless]

It was a big chunk of their profits. It was the fast growing market.

[Jessica Mendoza]

But over time, China has stopped turning to Germany for as many products.

[Tom Fairless]

China has become a much more problematic trading partner. It's moved from being this enormous source of demand that was bikes snapping up German cars and German machinery for its factories. Now it doesn't need it, it doesn't really need German goods as much. It can produce all that itself.

[Jessica Mendoza]

Not only is China producing its own cars, it's exporting them, making it a direct competitor to Germany. In 2022, China's auto exports soared past Germany's. Now, with its dominance in electric vehicles, China seems positioned to stay ahead.

[Tom Fairless]

So China has figured out how to produce cars at high quality and very cheaply. And it's essentially flooding global markets with these cars and other products too. German manufacturers all around the world are facing low cost Chinese competition.

[Jessica Mendoza]

Germany's also facing other issues that are squeezing the auto industry. In particular, high energy costs.

[Tom Fairless]

With the war in Ukraine, the gas has been cut off from Russia. So it's really causing problems and distorting the European market. And this Texas based chemicals manufacturer who has operations in Germany told me he can pay 10 times or more as much for energy in Germany as he pays in Texas. So that's a real problem for the industry.

[Jessica Mendoza]

Right, so energy costs are high, which is being passed on to the manufacturers.

[Tom Fairless]

Yeah, exactly. I think the basic industries like chemicals and metals and things, they take up a large amount of energy and then all that goes into the final cost of the car. So it's making them seriously less competitive because of these high energy costs.

[Jessica Mendoza]

Audi has been a casualty of these shifts. The company reported a 91% decline in operating profits for its third quarter of 2024. It's been cutting thousands of jobs across Germany. This downturn at Audi has had a ripple effect on Ingolstadt. Audi, through its parent company, has historically been an important source of tax revenue and business for the town. Now that's changed.

[Tom Fairless]

I spoke to, for instance, a hotel owner whose revenues are down about 10% since 2019. She used to get a stream of business guests coming to Audi, and that's dried up. And there aren't the big conventions in town, the auto conventions they used to have. And I spoke to a carpenter. Many of his clients are working at Audi, and he sees that the work is starting to dry up, especially for sort of less experienced carpenters.

[Jessica Mendoza]

What does that mean for the town itself?

[Tom Fairless]

So I spoke to the mayor and he is in a bit of a bind because Audi used to provide quite a big chunk of his budget that has dried up completely, I understand, in the last for over a year. So he suddenly has a big hole in his budget and he's having to start making cuts. Having to, at the moment, they're quite small, but he's increasing prices for museums and car parking spaces and thinking about deeper cut. And it seems like that money has gone for the foreseeable future and now they're facing tough decisions. It was a boom town for a long time, and suddenly it's running to a wall and it's not sure what the next move is gonna be. And when you talk to the residents and the businesses, they're all talking about Detroit. That's the sort of fear in their minds that it's gonna become the next Detroit. At the moment, it couldn't really be more different. It's this sort of still prosperous town, but you get a sense that things are starting to crack.

[Jessica Mendoza]

Audi declined to comment. There are more challenges for Germany's manufacturers on the horizon. At a press conference this week, President Trump talked about potential tariffs on auto imports into the U.S. Mr. President, have.

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[Jessica Mendoza]

Yeah, I probably will tell you that on April 2, but it'll be in the neighborhood of 25%. 25% would be a massive increase from the status quo at the moment. The tariff rate on cars is 2.5%.

[Tom Fairless]

The US is incredibly important to German manufacturers, and so any tariffs that President Trump would impose on Germany would be a problem. And that's another concern that you hear among local businesses, that President Trump's tariffs could bring a new wave of crisis.

[Jessica Mendoza]

Into these regions and further exacerbate what's already going on.

[Tom Fairless]

Yeah, exactly. So, yeah, you see the unemployment rate creeping up. You see business insolvencies arising. The retail sales are poor. The Christmas season, I think, was quite poor. And Germans are saving more and more of their income. I think they're nervous about what's ahead. They're fearful about the future. They're fearful about losing their jobs.

[Jessica Mendoza]

That fear may come into play this weekend when the country heads towards a big national election.

[Tom Fairless]

Germany stands at a defining moment.

[Bertrand Benoit]

German Chancellor Olaf Scholz is on the verge of a historic electoral collapse. Europe's largest economy stands at a turning point.

[Jessica Mendoza]

Could a new leader keep Germany's problems from getting worse? That's next.

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[Jessica Mendoza]

Germans head to the polls this weekend to cast their votes for Parliament. Our Germany bureau chief, Bertrand Benoit says that the top concern among voters is the economy.

[Bertrand Benoit]

So the economy has shrunk for the past two years and these two years of recession in a row, it's not really something that German voters have any experience of. It's not something that they've lived through in the past. And the economy has been gaining in significance for voters for the past year. It's really been the dominant topic.

[Jessica Mendoza]

Voters are unhappy with the current government under Chancellor Olaf Scholz. His efforts to turn around the economy haven't worked. Scholz has been Making only incremental tweaks when many economists say what the country needs are big changes.

[Bertrand Benoit]

So the thinking among most economists is that there are some real structural challenges that the country is facing. Germany is used to selling its goods to the entire world. But the entire world is not as interested in buying Germany's goods as it used to be.

[Jessica Mendoza]

With less demand for German exports. One solution, some economists say, is more government investment. What does Germany need to be investing in?

[Bertrand Benoit]

In everything it really is, across the board. It's corporate investment, it's research and development, its investment in factories and so on. But it's also state investment. It's also infrastructure investment. Infrastructure is very decrepit in Germany. Transport infrastructure. The trains famously no longer run on time. The power grid is outdated. It's struggling to transport power from A to B from where it's produced to where it's consumed. The education system is not performing. The government is largely analog and needs to be digitized. It's very inefficient. So a lot of this, there's a lot of catching up to do.

[Jessica Mendoza]

But these kinds of investments are not what the candidates are talking about. Instead, when it comes to Germany's economic model, even the upstart anti establishment parties are sticking to traditional economic policies. One of the contenders is Alice vital. She represents AfD, a populist right wing party that's been associated with neo Nazis. And her proposals about how to fix the economy are focused on smaller modifications meant to revitalize Germany's export model.

[Bertrand Benoit]

So she wants a smaller state, lower taxes, deregulation. She wants lower costs for companies. But she has also other ideas that are more controversial and that are more unique to the fda. She wants Germany to leave the eu, the European Union and give it the euro return to its own currency.

[Jessica Mendoza]

According to polls, the AfD is expected to gain a bunch of parliament seats in this weekend's election, though not enough for Vital to end up running the government. That person is likely to be Friedrich Merz, the head of the cdu, a conservative center right party. It was the party of Angela Merkel. Bertrand recently interviewed Merza. Based on your conversation, what was your impression of his views on the economy?

[Bertrand Benoit]

He is thinking, if you want to sum it up, it's that the German economic model is not entirely broken and doesn't need to be reinvented from scratch. It can be fixed through making it more competitive in decreasing the costs that are piling on business, decreasing taxes, red tape and so on.

[Jessica Mendoza]

How hard would it be to make a big change? Like if the economy is so dependent on manufacturing and exports and that's starting to not really make sense anymore. Why wouldn't the candidates want to do something else completely?

[Bertrand Benoit]

So the main challenge, the way I see it, is that you need to do two things that are a little bit in conflict with one another. On the one hand, most economists think you need to apply some of the recipes that Merz is calling for. You need to remove some of the shackles on business. And for that you need to make the state smaller. The state needs to retreat in terms of taxes at the same time. And that's the contradiction. You need probably to make the state also bigger. And the reason is because there is a lack of investment in Germany. And if Germany is going to generate more of its growth internally, that is not just through exports, it will need to spend more of its money at home. And that's something that's going to be very difficult for the parties that will be in the next government or that are likely to be in the next government to agree on.

[Jessica Mendoza]

So what does that mean for Germany? Sounds like the economy is already struggling. The voters are starting to see signs of that in their day to day lives. What happens?

[Bertrand Benoit]

So there's something tragic to the situation of Germany because it is a country that has been selling its products around the world that is quite unique in that way. If in the future Germany has to rely more on its own growth, on consumption and investment at home, many of these businesses think that the market is just going to be too small for them to survive. You know, there is some concern here that at the end of the day, even if Germany has a more balanced economic model, relies a little bit less on exports and a little bit less on manufacturing, a bit more on consumption and services and domestic growth, it's just not going to be as wealthy as it has been so far.

[Jessica Mendoza]

And if that is what happens, what could that mean for Europe, for the EU and for the rest of the world?

[Bertrand Benoit]

Well, it could mean a loss of economic might and influence for Europe if Germany is not doing well. You know, German companies have manufacturing all across the eu, not just in Germany. And if jobs start getting lost, that's also going to affect neighboring countries. So what's bad for Germany is not going to be good for Europe.

[Jessica Mendoza]

That's all for today. Friday, February 21 the Journal is a co production of Spotify and the Wall Street Journal. The show is made by Kathryn Brewer, Pia Gadkari Rachel Humphries Sophie Kodner Ryan Knudsen Matt Kwong Kate Linebaugh Colin McNulty, Annie Minoff, Laura Morris, Enrique Perez De la Rosa, Sarah Platt, Alessandra Rizzo, Alan Rodriguez Espinosa, Heather Rogers, Pier Singh, Jeevika Verma, Lisa Wang, Catherine Whalen, Tatiana Zamis, and me, Jessica Mendoza, with help from Trina Menino. Our engineers are Griffin Tanner, Nathan Singapak and Peter Leonard. Our theme music is by so Wiley. Additional music this week by Katherine Anderson, Peter Leonard, Bobby Lord, Nathan Singapak and Blue Dot Sessions. Fact checking this week by Mary Mathis and Kate Gallagher. Thanks for listening. See you on Monday.