Three top challenges to German economic supremacy

Risks from slowdown in China, ageing population and energy concerns may erode Berlin's role as the economic powerhouse in the euro region

PUBLISHED : Sunday, 06 September, 2015, 10:58pm
UPDATED : Sunday, 06 September, 2015, 11:00pm

The strength of the German economy is rightly regarded by investors as the foundation stone of the euro, but even the strongest stone can suffer from erosion, and Germany will be confronted by a number of economic challenges in coming years.

In the short term, policymakers in Berlin will be very relieved if the slowdown in the pace of China's economic expansion does not leave German exporters high and dry as corporate Germany has made a very big bet on the Chinese consumer.

Berlin will already have noted Friday's data showing German industrial orders fell 1.4 per cent in July month on month, driven by a 5.2 per cent drop in orders from overseas.

China was Germany's fourth-largest export market last year, according to data released by the German Statistics Office last month, up from 11th in 2007.

But that only tells part of the story. German exports to China last year were €74.5 billion, 6.6 per cent of the total, whereas in 2007 they were only €29.9 billion.

Nor does the headline number necessarily take into account German exports to China that are shipped through ports such as Rotterdam and Antwerp, conveniently situated for Germany's exporters but which are outside the country.

Car exports made up almost a third of the value of the €74.5 billion, so Germany's carmakers have much to lose if China's slowdown negatively affects the volume of cars sold or eats into profit margins.

But if German exporters face some risks from economic developments in China, Germany itself faces a longer-term risk, given its demographic outlook. While investors in Asia will know that Japan's society is ageing, fewer realise that Germany has a similar problem.

Germany's population is forecast to shrink to 65.4 million in 2080 from 80.7 million now, according to Eurostat, the European Union's statistics service.

With an average of 8.2 children born in Germany per 1,000 inhabitants over the past five years, according to one recent German study, Germany's birth rate has actually fallen below that of Japan, which registered 8.4 births per 1,000 inhabitants over the same period.

Consequently, Germany faces a decline in its working age population, defined as those between the ages of 20 and 65, to 54 per cent of the total in 2030 from 61 per cent.

No wonder then that, in February, Finance Minister Wolfgang Schaeuble characterised demographic change as "one of the major challenges [German] society is faced with".

With this demographic outlook, it becomes clearer why policymakers have been reluctant, despite international encouragement, to spend more now, preferring instead to plan for the coming decades when the country's tax base will shrink even as the needs of its ageing population necessitate increased government welfare expenditure.

Whether this year's rise in the number of economic migrants will positively affect the demographic challenge remains to be seen.

But if a falling working age population is not enough for Germany to contend with, there is also the impact of its energy policy in raising electricity prices for households and industry.

The average residential electricity rate last year was 29.8 cents per kilowatt-hour, according to Eurostat, almost double the 15.9-cent rate paid in France.

As for German industry, it paid 15.9 cents per kilowatt-hour, while the rate in France was 9.6 cents.

This situation has arisen as Berlin has sought to expand the use of renewable energy sources, both wind and solar, to ensure the country reins in its carbon emissions. But at the same time, it has been closing down the country's nuclear power capability in the aftermath of Japan's nuclear disaster in 2011.

"This government decision increased electricity costs for chemical companies, which are now double those across the Atlantic," economists at German credit insurer Euler Hermes wrote in June.

Many would argue that Germany's energy policy is enlightened but the fact remains that, compared to its neighbours, both its citizens and industry are paying significantly more for their electricity.

For residents, that arguably means less disposable income to be spent on consumption, while for industry, it is an added cost to absorb in an already undeniably competitive global marketplace.

Germany has very real economic challenges ahead of it, in the short and the long term. That must eventually have implications for the value of the euro.