Key Insights
- Germany’s economic forecast for 2023 has been downgraded by the European Commission
- The downturn is attributed to the aftermath of Russia’s invasion of Ukraine
- Inflation remains a pressing concern across the European Union, with consumer prices expected to stay above the European Central Bank’s 2% target by the end of 2024
Germany is bracing itself for a prolonged economic downturn in 2023, making it the lone major European economy expected to contract this year, according to fresh forecasts from the European Commission, the administrative body of the European Union.
The largest economy in Europe is anticipated to register a 0.4% decline in economic activity for the current year, a downgrade of 0.6 percentage points compared to estimates made just a few months ago in May.
The Commission also revised its growth projections for Germany in 2024, downscaling the forecast from 1.4% to 1.1%.
Germany’s economic struggles attributed to Russia’s invasion of Ukraine
The roots of Germany’s economic challenges can be traced to the fallout from Russia’s invasion of Ukraine. Berlin found itself in the unenviable position of having to rapidly reduce its reliance on energy supplies from the Kremlin, a move that has had ripple effects on its economy.
This economic setback has led some top economists to dub Germany as the “sick man of Europe,” a term originally coined back in 1998 during a period of economic turmoil. Now, as Germany grapples with substantial declines in output, the label is making a comeback.
However, not all economists are in agreement that Germany’s present woes are directly comparable to past downturns.
Holger Schmieding, Chief Economist at Berenberg, argues that the current scenario differs fundamentally from the challenges faced between 1995 and 2004. He points to Germany’s record employment levels, robust labor demand, and its enviable fiscal position among major advanced economies, factors that could aid in a more resilient response to economic shocks.
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Overall economic slowdown in Europe
The broader economic landscape across Europe is also showing signs of a slowdown. Projections now indicate that the 27 EU economies are set to grow at an average rate of 0.8% in 2023, a downgrade from the 1% estimate earlier this year.
Looking ahead to 2024, the outlook remains somber, with the EU expected to achieve growth of 1.4%, down from the previous estimate of 1.7%.
One factor contributing to this economic deceleration is weak domestic demand, particularly in consumption.
High and persistently rising consumer prices for most goods and services are having a more pronounced negative impact than initially anticipated, according to the European Commission’s statement released on Monday.
The persistently high inflation rate continues to pose a significant challenge for the European Union.
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While the latest forecasts suggest that consumer prices will moderate in the coming months, they are still projected to remain above the European Central Bank’s target of 2% by the end of 2024.
Within the euro area, where 20 EU nations share the same currency, headline inflation is expected to reach 5.6% in 2023 before moderating to 2.9% by the close of 2024.
The Commission acknowledged that inflation in services has proven more enduring than previously anticipated but anticipates it will gradually ease as a result of monetary policy tightening and diminishing post-COVID stimulus.
The Commission also issued a warning that inflationary pressures could persist longer than expected. In response to this challenge, the European Central Bank, which has already raised interest rates by 4.25 percentage points since July 2022, is set to meet soon to decide whether to further adjust its interest rate policy.