Germany says Europe’s largest economy is in ‘troubled waters’ and cuts its growth forecast

The German government said Europe’s largest economy was in “troubled waters” and slashed its growth forecast for this year as it struggles with a lack of skilled labor, excessive bureaucracy, high interest rates and lagging investment in new projects — while a relatively modest set of tax breaks for business remains blocked in the legislature.

The growth forecast was lowered to 0.2% from the previous forecast from last fall of 1.3%. That would follow a shrinking of the economy by 0.3% for all of last year.

Germany is recovering “more slowly than we hoped” from the shock of Russia cutting off most supplies of natural gas after its invasion of Ukraine, Vice Chancellor Robert Habeck said as he presented the government’s annual economic report. “The economy is in troubled waters.”

The loss of Russian gas in Germany led to a spike in energy costs that hammered energy intensive industries and contributed to high consumer inflation that eroded purchasing power and made consumers more reluctant to spend. Those two headwinds have eased as inflation and oil and gas prices have fallen, and as wages have started to rise to make up for inflation and restore lost disposable real income.

And unemployment remains low, meaning last year’s downturn does not resemble a classic recession.

“The good news is, Putin failed in his attempt to drive Germany into an energy shortage and thus into an economic catastrophe,” Habeck said. As wages rise faster than inflation, workers “finally have more money in their wallets in real terms.”

Slowing global trade is another factor behind Germany’s troubles, since exports of autos and industrial machinery have been mainstays of the economy.

Other, often longer term problems continue to plague what used to be Europe’s industrial and export growth motor. High interest rates from the European Central Bank have slowed construction of new homes and offices; companies complain they can’t get skilled workers; and excessive red tape and lengthy approvals slow the construction of new projects such as renewable energy generation.

Investment in digital and transport infrastructure has lagged after the government focused on balancing budgets to avoid piling up new debt. A 2009 constitutional amendment limiting deficit spending has come back to haunt the current government after the constitutional court ruled it could not use special emergency funds to skirt deficit limits.

The coalition government led by Social Democratic Chancellor Olaf Scholz had to revise this year’s spending at the last minute, including cancelling a subsidy for agricultural diesel fuel. That has led to protests by farmers who have blocked roads with their tractors.

A relatively modest set of tax breaks amounting to 3.2 billion euros ($3.5 billion) has passed the lower house but has been blocked by the conservative opposition in the upper house. Opposition leader Friedrich Merz’s Christian Democrats have made their approval conditional on restoring the farm fuel tax break.

The government has attempted to deal with the shortage of skilled labor by passing laws easing immigration for workers in needed fields and by shortening the wait to become a citizen from eight years to five, and three in some circumstances.

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