Germany leads pack on road to recovery

Labelled the sick man of Europe just five years ago, the economy has proved stronger than the rest of Europe in weathering the global downturn

The German economy, a major destination for Arab foreign direct investment last year, has weathered the global downturn remarkably well. Germans say this vindicates an economic model that has often been dismissed as sluggish and old-fashioned.

Even though its GDP contracted by about 5 per cent last year, the biggest slump since the 1930s, Germany was among the first European countries to exit recession last year and has managed to limit its unemployment rise to just over 5 per cent, compared with increases of more than 50 per cent in Britain and the US. Europe's largest economy is projected to grow by 2.1 per cent this year compared with projected growth of just 0.9 per cent in the 16-nation euro zone as a whole, the latest forecast from the Berlin-based DIW economic institute shows.

The surprisingly strong performance has given rise to cautious pride in the country, with commentators saying the German model of a long-term business focus, large manufacturing base, good labour relations and a strong welfare net is paying dividends ? and leaves it in a good position to profit from the predicted green technology boom over the coming years. "There has been a virtual miracle on the job market," says Professor Kai Carstensen, an economist at the Ifo economic institute in Munich. "We're not quite over the crisis yet but I am surprised. We had expected a much larger rise in unemployment.

German unemployment last year rose by just 155,000 to 3.423 million, or 8.2 per cent. A year ago, economists had been predicting it would reach 5 million. Firms including the car maker Daimler, in which Abu Dhabi's Aabar Investments bought a 9.1 per cent stake last year for ?1.95 billion (Dh10.31bn), were able to avoid mass redundancies because of a unique system of state-subsidised short-time working programmes, and labour contracts offering flexible working hours.

In addition, workers and management at companies across the country avoided lay-offs by agreeing to cost cuts such as forgoing or delaying bonus payments. "Good labour relations have worked fantastically in Germany," says Professor Werner Abelshauser, an economic historian at the University of Bielefeld. "Such labour deals would have been unthinkable in France, where workers preferred to lock in their managers or threatened to burn down factories." France's jobless rate rose by a quarter last year.

Germany's heavy reliance on exports, which plunged it deep into recession at the start of last year when world trade slumped, is now helping it return to growth as global investment and trade in big markets such as China are picking up, economists say. Unlike the US and Britain, which have radically scaled back their manufacturing sectors since the 1980s to slightly more than 10 per cent of GDP, German industry still accounts for well over 20 per cent of GDP because its automotive and engineering sectors have remained internationally competitive, thanks to a mixture of quality and specialisation.

"German industry is incredibly competitive because of its ability to provide tailor-made machinery across the globe," says Prof Abelshauser. "That's a market where a country like China, for example, won't be able to catch up for years." With discernible glee, German commentators are pointing out that the financial crisis has exposed the weaknesses of the Anglo-Saxon focus on quick profits and on the shareholder-value principle ? the quest to maximise market capitalisation to enrich shareholders, which was never wholeheartedly embraced in Germany.

Only five years ago, Germany had been dismissed as the "sick man of Europe", weighed down by a bloated welfare system and a decade of feeble growth. It ditched that label by enacting tough welfare cuts in 2004 and 2005, and by riding the subsequent global investment boom. "Managers and consultants are now remembering the advantages the German model offers," the country's leading magazine, Der Spiegel, reported last week. The world, it added, was envious of Germany's social safety net, good labour relations and long-term approach.

"The short-term, quarter-by-quarter business focus isn't suited to the kinds of products that are successful in the market today. You need long-term expertise, which can't be easily replaced," says Stefan Kooths, an economist at the DIW institute . The system is geared towards preserving what Germany considers its greatest asset: highly skilled workers. One example of Germany's determination to hold on to experienced workers can be seen in the northern port of Emden, where the Nordseewerke shipyard has been hit by a slump in orders and has ceased production, ending a 106-year history of building U-boats, navy frigates and specialised vessels.

But the yard won't close. It is converting to the production of steel foundations for offshore wind turbines. Its new owner, Siag Schaaf Industrie, is investing ?40m in new machinery and retaining 720 of the yard's 1,200 workers. It plans to transform Emden into a manufacturing centre for the booming wind power industry. Arab investments over the past year have shown confidence in the German economy. In addition to Aabar's stake in Daimler, Qatar Holding became the third-largest shareholder in car maker Volkswagen (VW), with a 17 per cent stake. And International Petroleum Investment Company, an Abu Dhabi Government-owned investment firm, acquired a 70 per cent stake in MAN Ferrostaal, a plant construction contractor.

"Arab countries have decided that Germany is a safe place to invest their considerable financial resources in uncertain economic times," reported Germany Investment Magazine, a publication funded by the German government's foreign trade agency, last month. The country prides itself on its "Mittelstand", the small and medium-sized business sector that includes many engineering firms that few people have heard of, but which are world leaders in their highly specialised fields.

Not even the appreciation of the euro in foreign exchange markets is causing much concern. "German products are less price-elastic than others, largely because they are so specialised," said Mr Kooths. But economists from elsewhere warn that Germany's perennial trade surplus and heavy reliance on exports, which account for almost half of GDP and one in five jobs, carries major risks and urgently needs to boost domestic demand and investment.

Leading emerging economies, including China and India, are starting to encroach on its dominance of high-tech industries such as solar power technology, and could overtake the German car industry in the race to design the most efficient electric cars and batteries. "We have to reinvent the car," Dieter Zetsche, the chief executive of Daimler, said last year. But it is not assured that German firms will be the ones to do so.

Daimler, VW and BMW face the quandary of needing to invest billions in research while being under pressure to save billions to stay internationally competitive. "When Germans talk about others needing to learn from them, that is almost nonsensical," says Simon Tilford, the chief economist at the Centre for European Reform, a London think tank. "If everyone were to save far more than they invest or rely on exports for economic growth we would be back to the 1930s; we would descend into protectionism. It's rather parochial.

"The Germans don't seem to recognise that if everybody behaved like them, the world would be in a slump. Of course there are strengths in the economy but Germany's growth performance over the last 10 years has been very, very poor, and almost exclusively founded on exports." German economists counter that the country's export strength grew from its comparative advantages in technology and industrial production, and that it is hard to rebalance an economy shaped by decades of market forces.

"The answer can't be for us to scale back our presence on world markets. That's our big strength," says Mr Kooths. "We need to boost imports and domestic investment, for example in infrastructure such as roads and the railway. It doesn't all have to be government money but the government could help enable investments." But many have faith that the success of the "Made in Germany" brand abroad will continue to protect the country's prosperity in the future.

"Not many are capable of what we can do," says Prof Abelshauser.