Merkel’s economic chancellorship

Angela Merkel become the German chancellor in 2005. Merkel ran as the CDU/CSU candidate, the centre-right Conservative alliance in Germany. The CSU contests elections in only Bavaria, whereas the CDU operates in the other states of Germany. In the election campaign, the CDU/CSU pursued a fiscally conservative agenda, promising more deregulation, tax reductions and public sector efficiencies. Merkel’s CDU/CSU won 226 seats in the 2005 Federal Election; this wasn’t enough to form a majority government. After negotiations, the CDU/CSU entered a ‘grand coalition’ with the centre-left SPD that lasted until the 2009 election.

Following the 2009 Federal Election, the Merkel led CDU/CSU formed a centre-right coalition with the pro-business FDP. However, in 2013, Merkel was once again forced into a coalition with the centre-left SPD. This coalition has lasted until 2021, with Merkel announcing that she will step down as chancellor at the end of her term in 2021. Due to successive coalitions with the SPD, Merkel had been forced to pursue economically moderate policies for much of her sixteen-year tenure. Her governing style has been characterised as pragmatic, given the absence of an ideologically driven policy agenda. Merkel’s crisis management has been lauded by members from all political sides – her handling of both the Great Recession of 2008 and the more recent Coronavirus pandemic.

Great Recession

The German economy emerged from the Great Recession as by far the strongest economy in Europe. Prior to Merkel taking office in 2005, economic growth in Germany was sluggish, averaging at 1.2% annually between 1998 and 2005. Unemployment rose during this period, from 9.2% to 11.1%. However, following Merkel’s ascendency to the chancellorship, unemployment began to fall. This trend continued during 2008-2009, whilst most countries experienced sharp increases in their unemployment rates. Unemployment levels remained stable at 7% during this period. At the same time, the unemployment rate in the UK rose from 5% in 2007 to 8% by the midst of 2009. In the years following the Great Recession, the unemployment rate in Germany fell steadily, reaching 5% by 2013. By comparison, Eurozone unemployment levels rose to 12% and the UK saw unemployment rates remain at 8%. GDP levels rose above recession levels by late-2010 in Germany, with this feat being matched by the UK three years later in 2013. Germany’s debt to GDP ratio fell following the Great Recession, from 82% in 2010 to 60% by 2020. On other hand, debt to GDP rose in the UK during the same period.

The strong economic recovery in Germany following the Great Recession can be attributed to the Labour market reforms undertaken by Merkel’s administration, with this policy simultaneously boosting Germany’s manufacturing output. At the same time, Merkel’s government implemented stimulus packages, including the ‘cash for clunkers’ scheme alongside the introduction of further subsidies for short-time work; both of these schemes were controversial at the time but boosted the post-recession economic recovery.

The Hartz labour reforms started in the mid-2000s and were expanded following Merkel’s ascension to the chancellorship. During the 1990s, the German labour market struggled with excessive regulation and subsequent high labour costs. Overly generous social benefits helped reduce wage inequality and wage dispersion; however, this came at a cost of a large stock of long-term unemployed citizens. As a result, a series of labour market reforms were implemented. Ineffective policies such as job-creation schemes were abolished, with long-term unemployment benefits reformed in such a way that claimants were required to prove that they were searching for a job. These reforms alongside others were hugely successful in promoting employment. The labour force participation rate of citizens aged 55-64 rose from 42% to 60% between 2003 and 2008, having been stagnant previously. The labour force participation rate of the young, aged 15-24 also rose 5% during the same period. The unemployment rate fell to the lowest level in three decades, given that the incentives for those unemployed to take up jobs were much greater. The unemployed became much more willing to consider lower pay or a longer commute to work. These developments put Germany well-placed to weather an economic crisis as these labour reforms led to an increase in Germany’s international competitiveness. Whilst unit labour costs in the US, UK and France were rising during the 1990s and 2000s, these remained stable in Germany – even falling in the four years leading up to 2008. This helped Germany’s post-recession economic recovery, as businesses had a much greater incentive to establish themselves in Germany.

The German government, spearheaded by Merkel, enacted two stimulus packages in light of the Great Recession in 2008, totalling €82 billion. These included income tax cuts, increased child benefits and investment in transport infrastructure. However, one of the most notable schemes announced was a ‘cash for clunkers’ program. This provided a subsidy of  €2,500 for individuals with a car at least 9 years old, looking to purchase a new car in exchange for their old one. Over two million cars were purchased under this scheme by the time that it ended in 2009. This policy boosted private consumption by helping the manufacturing industry as individuals were incentivised to purchase new vehicles. Given that the manufacturing industry comprised around 30% of GDP in 2007, this reduced the impact of the Great Recession as more workers were kept in employment due to the greater profits received by manufacturing firms from this policy.

The most effective policy in tackling the Great Recession was the promotion of short-time work by the German government. Short-time work became particularly evident following the unification of East and West Germany in the early 1990s, due to the structural lack of skills that East German workers possessed. However, during the 2008 recession, the number of short-time workers skyrocketed from less than 100,000 to 1.5 million. This was due to the lack of foreign demand in the economy that resulted from the global recession, forcing companies to cut worker hours. However, instead of firing workers as was the case in most developed countries, German firms instead cut working hours for existing employees. This was made possible by the German government subsidising companies for short-time work. Once demand began to rise, the number of short-time workers quickly decreased, falling to 250,000 by 2011. As a result, the economy quickly rebounded as employees weren’t displaced and could continue operating at the same job during and post-recession. Studies have concluded that the unemployment rate could have risen by 4% in 2008 if the extension of short-time work through government subsidies hadn’t taken place.

Coronavirus pandemic

The German economic response to the coronavirus outbreak was far-reaching and effective in ensuring that the economy didn’t fall into a depression. As had been the case in the 2008 recession, Merkel’s government expanded the short-time work benefit, incentivising employers to retain workers at shorter working hours. This policy worked as it had previously, reducing rises in unemployment and ensuring that the economy was well-placed to rebound once the economy opened up. Merkel also introduced a temporary VAT cut alongside various other indirect taxes. These reductions have encouraged private consumption by making it cheaper for consumers to purchase goods and services. As a result of these policies, Germany’s economic output in the first quarter of 2021 fared better than most European nations. Compared to Q4 2019, quarterly GDP growth exceeded that of both the Euro Area and the UK.

Merkel’s economic legacy has been dominated by the emergence of Germany as the European economic superpower, following the remarkable economic growth experienced after the Great Recession. This can be attributed to her economic pragmatism, introducing measures to reform the labour market and thereby presiding over a sharp decline in unemployment. The expansion of short-time work benefits during both the Great Recession and now in the midst of the coronavirus pandemic has promoted German economic growth, by making it easier for firms to retain workers. Germany is undoubtedly much more prosperous now than it had been when Merkel became chancellor in 2005 and there’s little doubt that she will go down as one of Germany’s most successful chancellors.