Europe Politics

Why political and economic crisis could move from the UK to Germany in 2020

Key Points
  • Political instability in Germany, coupled with ongoing economy uncertainty, could mean that the disruption seen in the U.K. during its Brexit crisis could shift across the continent to Europe's largest economy, according to economists and market watchers.
  • The German economy narrowly avoided a technical recession in 2019.
24 October 2019, Berlin: Chancellor Angela Merkel (CDU) attends the plenary session of the German Bundestag.
picture alliance | picture alliance | Getty Images

The political and economic identity crisis seen in the U.K. during its torturous Brexit process could shift across the continent to Europe's largest economy Germany in 2020, according to economists and market watchers.

Germany's political system is going through a period of instability with the governing "grand coalition" of Chancellor Angela Merkel's Christian Democratic Union (CDU), its Bavarian sister party the Christian Social Union (CSU) and the Social Democratic Party (SPD) under increasing strain over the last year.

Tensions came to a head earlier in December when the CDU party leader, Annegret Kramp-Karrenbauer, rejected calls from the SPD's new leftwing leadership team to renegotiate the terms of the governing alliance, putting the coalition's survival into 2020 in doubt.

The instability comes amid a wider picture of polarization in German politics with rising support for the far-right populist party Alternative for Germany (AfD) and the Green Party.

The next election is due in 2021 and Chancellor Merkel has already announced she would not seek a fifth term in office. Her departure from German politics will be a sea change for Germany as well as Europe as she has been a constant political figure in the continent over the last two decades.

"The center of political disruption in the EU may well be moving from the U.K. to Germany," Michael Browne, portfolio manager at Martin Currie Investment Management, told CNBC Monday, noting that Germany's coalition government "does not look like it's going to hold together for very much longer."

"Mrs Merkel who has been this amazing politician for the last decade, and one of the very few that's been in power for the whole period of time, she's on her way out – and therefore the policies they (the government) are proposing at this point are on the way out as well," he told CNBC Europe's Squawk Box.

"We have to think about what is coming next and what is not going to be the case is the status quo."

Germany is facing another source of uncertainty on the economic front, having narrowly avoided a technical recession in 2019 that has prompted opposition lawmakers to call on the government to introduce stimulus measures and to raise public spending.

There is resistance from the CDU, which has made fiscal prudence and maintaining a balanced budget, and not incurring any new debt – a policy known as the "schwarze null" or "black zero" – a mainstay of its economic policy, however.

Opposition lawmakers say the government is being too dogmatic at a time when the economy is struggling, particularly its pivotal car industry. Browne said that the German economy was facing a "massive problem" over the next five to ten years, with the auto industry expecting lower car sales and thousands of job cuts as it shifts to electric technology.

Browne said changes meant "a third of its auto industry workers are going to get the sack, a lot of people working in garages are going to get the sack."

"There is an enormous transformation coming here and they're just not preparing for it. And that, coupled with the fact that you've got this massive political fatigue in Germany, is going to produce some really big radical change," he noted.

Germany's closely-watched Ifo index, a leading indicator on the state of (and forecasts for) the German economy by business executives, increased for the fourth month in a row in December, to 96.3 from 95.1 in November, showing that sentiment among business leaders is improving. Expectations also improved with Ifo noting that the German economy "is heading into the New Year with more confidence."

Happy New Year?

Economists are more hesitant over any nascent recovery, however.

"Another increase in the Ifo index suggests that the worst for the German economy should be over. However, what will come after the 'worst' still remains unclear," Carsten Brzeski, chief economist at ING Germany, said in a note earlier in December.

"As much as we would like to see the German economy leaving the stagnation territory behind, truth is that any tangible bottoming out is still hard to find," he said. "In fact, hard data disappointed in October and particularly the manufacturing sector remains in the doldrums. Inventories are still increasing and order books are still thinning out. A combination which does not bode well for industrial production in the near future."

Krisztian Bocsi | Bloomberg | Getty Images

Although he noted that a rebound of global activity on the back of a phase-one trade deal between the U.S. and China would clearly benefit the German economy in 2020, Brzeski said the future still looks uncertain at a domestic level.

"A turbulent year for the German economy draws to a close. A year, in which the economy has been flirting with stagnation and technical recession. A year, in which strong private and public consumption has offset the impact from the manufacturing slump. Looking ahead, the widening gap between a weak manufacturing sector and solid consumption as well as a strong labor market looks hard to sustain. Something has to give."

"Either the domestic protection against trade conflicts and global manufacturing weakness crumbles further or a bottoming out, followed by a meager rebound, in the manufacturing sector will come just in time to push the economy to somewhat higher growth rates."

Germany's Bundesbank said in mid-December that it expects the economy to "emerge from its current lull" but to grow by only 0.5% in 2020 before a stronger rebound in 2021 and 2022 when 1.5% growth is forecast.

"Besides Germany's distinctly supportive fiscal policy and highly accommodative monetary policy, the main driver of the improved economic outlook is exports," Bundesbank President Jens Weidmann said of the new macroeconomic projections.