Germany’s Economy Is Ready to Grow. The Market Loves It.
German Chancellor Friedrich Merz aced his live White House face-off with President Donald Trump on June 5, keeping cool when the U.S. president implicitly linked him to Nazi predecessors. (D-Day “was not a pleasant day for you,” Trump asserted.)
He’s doing pretty well back home, too, 45 days or so after formally taking power. “Merz and the government have laid the groundwork for the economy to turn around,” says Sebastian Dullien, research director at the Dusseldorf-based Macroeconomic Policy Institute. He and other forecasters predict 1.5% gross-domestic-product growth for Germany next year after three years of stagnation.
A grumpy German public seems to agree, relatively. Merz’s approval rating jumped to 36% from 23% in a recent survey by pollster INSA.
Merz has stoked great expectations since his election victory in February. His amendment of Germany’s constitutional “debt brake” and pledge to spend “whatever it takes” on the military largely drove a nearly 20% year-to-date rally in the iShares Europe exchange-traded fund, while the S&P 500 index inched up 2%.
In office, he has reverted somewhat to incrementalist German type. A promised 500 billion euros ($576 billion) burst in infrastructure spending will be doled out over 12 years. An announced €46 billion corporate tax cut won’t actually reduce interest rates until 2028. “That’s too little, very late,” grumbles Carsten Brzeski, global head of macro at ING Research.
Recent history has set a low bar economically and politically, though. German industrial production has slumped 6% since Russia invaded Ukraine in February 2022, according to the U.S. Federal Reserve, as a cutoff of cheap Russian natural gas dovetailed with weakening Chinese demand. Former Chancellor Olaf Scholz’s three-party coalition seemed largely paralyzed by internal squabbles.
“We’re at the end of a very negative cycle,” Brzeski comments. “Merz didn’t need a lot to turn sentiment and bring back some growth.”
The current coalition between Merz’s Christian Democratic Union and Scholz’s Social Democrats (now minus Scholz) looks more cohesive, if only for fear of the hard right Alternative for Germany opposition. “They all know that if they mess up, the AfD will win the next elections,” Dullien says, using the party’s German acronym.
Merz’s sang-froid in Washington didn’t rid Europe of the threat of punishing new U.S. import tariffs. But investors, looking at the TACO (Trump always chickens out) trend in other trade talks, are expecting mitigation. “We have been positive from the get-go,” says Davide Oneglia, director of European and global macro at TS Lombard. “The European Union is putting something meaningful on the table, based on energy and defense purchases.”
Against that backdrop, he sees “absolutely more upside for European and German stocks over a six- to 12-month horizon.”
Oneglia remains bullish on European military stocks despite a roaring rally already this year. “There’s so much money chasing so little manufacturing capacity that it still has a long way to go,” he says.
Analysts from UBS concur, flagging French weapons makers Thales and Dassault Aviation as top European picks.
Merz’s fiscal revolution in Germany will inevitably decelerate into painstaking economic evolution. Heavy industry will struggle to recover from the Russian energy shock and leapfrogging Chinese competitors. The entrepreneurialism and research infrastructure for tomorrow’s industries will seep in slowly. “It isn’t in the German culture to go for abrupt change,” Dullien says.
But the right direction is better than dithering, and 1.5% growth is a lot better than nothing.