Can Europe’s largest economy adapt to a shifting global landscape?
Robert Lind

In spite of intensifying concerns around deindustrialization, German manufacturing is quickly adapting to a new economic paradigm. In the short term, it will likely see continued pressure on energy-intensive sectors, but in the medium to longer term, there are encouraging signs that German industry can establish itself in low-carbon technologies.  

As the world rapidly digitizes and the automotive industry embraces electric cars, Germany risks falling further behind countries such as China that have developed their technological capabilities. On a comparative basis, Germany’s labour costs exceed other manufacturing regions. Adding to its struggles is stagnant labour productivity as Germany’s aging population retires or shifts to part-time work. This trend doesn’t bode well given Germany’s historic strength producing leading-edge automobiles and dominating the manufacture of equipment, chemicals and pharmaceuticals.  

Germany was the only Group of Seven (G7) member to post negative growth in 2023, and some fear a prolonged period of stagnation. Yet, green shoots still sprout as the economy attempts both near- and long-term structural shifts. 

Does a sharp drop in manufacturing spell trouble for Germany?  

Monthly industrial production figures from the Bundesbank revealed a sharp drop in manufacturing output to cap 2023. Consumer durables posted particularly weak output, falling 5% in the fourth quarter of 2023 and 11% year over year. Tighter financial conditions and the uncertainty around the health of China’s economy are impediments forcing industry to adapt.

German output mounts comeback after weak end to 2023

The line chart above represents the manufacturing output in Germany for various types of goods from 2005 to January 15, 2024. The base year is 2021, which is indexed at 100. The x-axis lists the years from 2005 to 2023, and the y-axis represents the manufacturing output index with 2021 as the benchmark year. The chart includes four different lines, each representing a different category of goods: intermediate goods, capital goods, consumer durables and consumer nondurables. From 2005, all categories show an increase in output until around 2008. After 2008, there’s a significant drop, most notably in capital goods and intermediate goods. The output for all categories then rises again until around 2020, when it begins to fluctuate. In 2020, there’s a sharp decline in the output of all categories, followed by a rebound in 2021 to pre-2020 levels.

Source: Bundesbank. Based on an index of production (2021=100). Data as of March 31, 2024.

A look under the hood of the data shows the economy is moving to higher value-added manufacturing

Despite Germany’s woes, monthly data could be overstating the weakness in manufacturing activity. Quarterly estimates of gross value added (GVA) suggest manufacturing activity was more resilient in 2023, which may reflect a boost relative to production or may signal German firms have shifted to higher-value products within industries. GVA is the value for the amount of goods produced, excluding input and material costs.

German output more resilient than expected 

The line chart above displays the trends of two economic indicators, German manufacturing output and gross value (GVA) added from 2017 to 2023. There are two lines on the chart, the first represents GVA. The second line represents the manufacturing output. Both lines follow a similar trend. They increase until 2019, then experience a sharp decline in 2020. After 2020, both lines show a partial recovery in the subsequent years, but they do not return to their previous peak by the end of 2023. The x-axis lists the quarterly intervals from 2017 to the end of 2023, and the y-axis represents the manufacturing output and GVA index with the fourth quarter of 2019 as the base or benchmark index.

Sources: German Federal Statistical Office (Destatis), Bundesbank. Based on an index of production (2019 Q4=100). Data as of March 31, 2024. 

On a cyclical basis, the industrial downturn may be close to an end

While the cyclical downturn has had a broad impact, manufacturing has been hurt less than other sectors, including construction and retail, according to the Munich-based Institute for Economic Research (Ifo). Taking a step back, Germany’s manufacturing sector isn’t nearly as weak as it was in 2008 or 2009, nor in 2020 during the COVID-19 pandemic. The Ifo’s most recent business climate survey revealed a rise in March, with less pessimism expressed by companies. Still, there are signs that inventories are now at more comfortable levels so that any increase in orders could feed through to higher output over the next six to nine months.

Exporters face vulnerability due to their reliance on China 

Germany’s exports could soon face headwinds from lingering high interest rates along with an economic slowdown in China. German companies are curtailing reliance on China, but they still rely on Chinese imports for production, creating another barrier to a quick economic turnaround. China also boosted its own exports to other nations, creating global competition for German companies that sell goods abroad.

Germany’s trade-to-GDP ratio is over 80%, which is well above other major European economies (typically around 50% to 60%) and the United States and China (around 20% to 30%). This exemplifies Germany’s sensitivity and reliance on global trade. Meanwhile, German manufacturing GVA still accounts for 20% of the total German economy, compared to about 10% in the U.S., United Kingdom and France.

Automobiles, particularly electric vehicles (EVs), illustrate Germany’s fight to maintain its historic industrial reign. Chinese automakers, including BYD, compete technologically and at lower cost. In response, the EU Commission launched an anti-subsidy investigation against Chinese EV makers last year. The investigation continues and could result in some modest duties applied by the EU, which in turn could spark retaliation by China. While this could help its automakers catch up on EVs, Germany remains highly exposed to commerce with China and should avoid a caustic trade spat.

The economy and society are learning to adapt

Fortunately, Germany appears to have avoided energy shocks from the Russia-Ukraine war. Germany had previously imported over 50% of its natural gas from Russia. Manufacturing output declined by much less than was feared, and GVA rose by 0.25% last year. Germany has been able to source gas from areas such as Norway and the Netherlands, while also developing its own liquefied natural gas infrastructure.  

The country’s shift to clean energy, Energiewende, has faced hurdles, but it has also been an area of innovation. Germany has become the leading G7 nation in low-carbon technologies as a share of GDP, signaling its progress in newer industries such as battery products and aspects of solar manufacturing, including photovoltaic components. 

Germany has also gained ground in trade with the eurozone, the U.S. and other parts of the world. Prior to the COVID-19 pandemic, its exports to China rose to a record high but have since retreated following the lingering constraints the pandemic placed on supply chains.

German firms seek to broaden trade partners 

The bar chart above represents the contributions to growth of German goods exports over three distinct time periods: the first quarter of 2010 through the fourth quarter of 2015, the first quarter of 2016 through the fourth quarter of 2019, and the first quarter of 2020 through 2023. The bars are clustered in groups of all three periods for each market or region, and their height or depth indicates the percentage points by which that market contributed to overall export growth. The x-axis lists regions that have contributed to the growth of German goods exports: China, the United States, the United Kingdom, France, Italy, Spain, the Netherlands, other eurozone, Russia, Turkey, and the rest of the world. The y-axis ranges from -3 to 7 percentage points. Over the three time frames in the chart, Germany’s exports to the “rest of world” have significantly grown. China remains a consistent export partner for Germany, but that relationship trends downward since 2020. Exports to other European countries have fluctuated but all trend upward since 2016. Exports to the United States have been volatile. However, in the most recent period since 2020, exports to the U.S. rebounded, contributing positively.

Source: International Monetary Fund Direction of Trade Statistics. Data as of March 31, 2024.  

A vibrant Germany is necessary for Europe’s long-term health 

The terms-of-trade shock induced by the pandemic and the Russia-Ukraine war appear to have abated. This should alleviate some of the pressure on Germany and the broader EU. With this, lower inflationary pressure should improve the nation‘s real incomes this year. 

Undoubtedly, Germany’s economic contribution is vital to the EU, especially as Europe seeks to quell concerns around weaker growth. Technological innovation, trade and a firm geopolitical presence are all necessary for the EU to prosper. To regain its industrial dominance, Germany must have the freedom to maneuver with new trading partners.

Robert Lind is an economist with 36 years of industry experience (as of 12/31/2023). He holds a bachelor's degree in philosophy, politics and economics from Oxford University.

Gross value added (GVA) - The value of the amount of goods produced by a nation or other economic entity, excluding input and material costs. 


Group of Seven (G7) countries - The Group of Seven is an organization of the world’s advanced economies, including Canada, France, Germany, Italy, Japan, the United Kingdom and the United States. The European Union is also considered a member.

Trade-to-GDP ratio - A measure of the importance of international trade in an economy, calculated by dividing the aggregate value of exports and imports by gross domestic product. 

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