[Global Focus] Europe's Growth Engines Germany and France... Double Burden of Economic Chill and Political Division

Germany Criticized as 'New Patient'
Shaken by Slump in Largest Trading Partner China
Chancellor Scholz Faces Collapse of 'Traffic Light Coalition'

France Faces Severe Fiscal Deficit Crisis
Companies Rush to Large-Scale Layoffs
Cabinet Collapse Causes Turmoil for First Time in 62 Years

“Energy crisis, intensified competition with China, and the re-election of U.S. President Donald Trump are causing the collapse of the German economic model.” (The Economist)

“High energy costs, interest rates, industrial recession, declining consumer confidence, and slowing corporate investment have stagnated growth in the French economy, which now faces a greater blow due to the collapse of the cabinet.” (The New York Times·NYT)

The economies of Germany and France, which have served as the growth engines of Europe, are entering a season of hardship. The core pillar of the German economy, the automobile industry, is facing the unprecedented threat of major factory closures due to China’s rise, while in France, large corporations struggling with high interest rates are announcing layoffs one after another, and unemployment is surging.

Nevertheless, Germany and France are struggling to find opportunities to escape the quagmire of recession due to severe political strife. Last month, the so-called “traffic light coalition” led by Chancellor Olaf Scholz in Germany collapsed, and in France, the government cabinet collapse became a reality with the National Assembly’s passage of a no-confidence motion on the 4th of this month. Next year is a critical period with concerns over trade friction with Europe due to the re-election of “Tariff Man” Trump as U.S. president, raising alarms.

China-Dependent Germany, Europe’s New Patient?

AFP Yonhap News

Recent headlines from major foreign media about Germany, Europe’s largest economy, describe it as “Europe’s patient.” The German Economic Experts Committee, an advisory body to the federal government, lowered its forecast for Germany’s GDP growth rate this year from 0.2% to -0.1%, predicting two consecutive years of negative growth. This marks the first time since 2002-2003 that the German economy has contracted for two consecutive years.

Germany’s manufacturing and export-oriented industry has been heavily dependent on the Chinese market. However, due to China’s severe domestic demand slump caused by the real estate crisis, Germany is facing a backlash. China has even lost its title as Germany’s largest trading partner. According to the U.S. economic media CNBC, trade volume between Germany and China in the first quarter of this year was 60 billion euros, falling behind the 63 billion euros in trade between Germany and the United States for the first time.

The core pillar of the German economy and accounting for 5% of Germany’s GDP, the finished car market, is being taken over by China. Nicknamed the “world’s factory” for mass production and export of manufactured goods, China has gained the capability to mass-produce advanced products such as electric vehicles thanks to massive government subsidies. Last year, China became the world’s largest automobile exporter by shipping over 5 million vehicles, boosted by the rise of BYD, the largest electric vehicle manufacturer by sales volume.

The decline of Germany’s finished car industry has become visible. In October, Europe’s largest automaker Volkswagen shocked German society by considering the closure of domestic factories for the first time in its 87-year history. It is estimated that up to 30,000 jobs could be lost as a result. Audi is also preparing to cut thousands of jobs, and German auto parts supplier Schaeffler has reduced its workforce by 4,700.

France Faces a Harsh Winter Amid Severe Fiscal Deficit

In France, high interest rates caused by massive fiscal deficits are choking the economy. Due to excessive spending during the COVID-19 pandemic, this year’s fiscal deficit reached 6.1% of GDP, double the 3.0% deficit level allowed by European Union (EU) fiscal rules. Consequently, international credit rating agencies Fitch and Standard & Poor’s downgraded France’s credit rating from stable to negative last month and in May, respectively. France’s borrowing costs have risen to levels comparable to Greece’s during its severe crisis in 2008.

Iconic French companies have recently announced large-scale layoffs one after another. Last month, automobile manufacturer Michelin and chemical manufacturers announced plans to cut thousands of jobs. Nexity, France’s largest construction company, plans to lay off 1,000 employees, and retailer Auchan announced its largest-ever layoff plan. Bankruptcies among French companies struggling with high interest rates are also increasing.

As a result, France’s unemployment rate, which was at a 15-year low of 7.1% early last year, rose to 7.4% this fall. France’s GDP, which surprisingly grew by 0.4% in the third quarter due to the Olympic effect, is expected to contract by 0.1% in the fourth quarter, with next year’s growth rate forecast to slow from 1.1% this year to 0.6%. The NYT reported, “Due to uncertainty in the French labor market and the resulting household burdens, the French have come to prefer saving over consumption, leading to a vicious cycle in French economic activity.”

Europe’s Twin Engines Plunged into Severe Political Turmoil

Yonhap News

The reason why the economic downturn in Germany and France is expected to continue through a long tunnel is that political division in both countries has reached unprecedented levels.

In Germany, last month the “traffic light coalition” composed of the Social Democratic Party (SPD), Free Democratic Party (FDP), and the Green Party collapsed. This happened when Chancellor Olaf Scholz dismissed Finance Minister Christian Lindner of the FDP, who opposed his economic policies. As a result, Germany fell into a “lame duck” status. As a last-ditch effort, Scholz announced plans to initiate a vote of confidence this month and hold an early general election in February next year. Although he intends to seek re-election, his chances are widely considered very low due to a downward trend in approval ratings since the September 2021 general election.

The Economist emphasized that it is more important than ever for the next German government to come together wisely at this urgent time when large-scale reforms such as expanding public investment are needed. It pointed out that “corporate tax reform, incentives aimed at extending working hours, infrastructure and defense investment, and reducing bureaucracy are the most urgent issues.”

The political division in France is even more severe than in Germany. In France, where a “hung parliament” (no single party holding an outright majority) was produced in the early general election last July, the cabinet collapse became a reality for the first time in 62 years. The National Assembly clashed over the government’s austerity budget for next year, and after Prime Minister Michel Barnier unilaterally adopted the budget without a parliamentary vote on the 2nd, the National Assembly proposed and passed a no-confidence motion against the government on the 4th.

President Emmanuel Macron is expected to nominate a new prime minister soon, but intense party rivalry over this is anticipated, making it widely expected that major reforms will be impossible until the early dissolution of parliament after June next year.

“Trump 2.0 Era” Next Year Likely to Be Even Tougher

Next year will be even more problematic. With the re-election of U.S. President Donald Trump, who advocates “America First,” the likelihood of intensified trade friction is very high, making it urgent to devise proactive strategies. Pimco, the world’s largest bond fund manager, predicted that if a global trade war breaks out, the euro’s value against the U.S. dollar could fall even further.

European media, while expecting the capabilities of Germany and France to prepare for Trump’s possible use of tariff imposition as a bargaining chip, criticize the shaky leadership of President Macron and Chancellor Scholz. The British daily The Telegraph evaluated, “The ‘engines’ of Germany and France run smoothly when working together at the EU headquarters in Brussels, Belgium, but both countries’ leaders are vulnerable, caught up in domestic political turmoil.”