The German economy has officially entered into recession due to a decline in consumer spending brought about by last year's energy price shock. Official data reveals that output in Europe's largest economy dropped by 0.3% in the first quarter of 2023, following a 0.5% contraction at the end of last year. This marks two consecutive quarters of declining output, the definition of a recession. The persistence of high price increases was a significant factor affecting the German economy, particularly in household final consumption expenditure, which was down 1.2% in the first quarter of 2023.
The significant increase in energy prices, partly triggered by Russia's invasion of Ukraine in February last year, resulted in natural gas prices soaring to record highs. This prompted Moscow to throttle gas supplies to European countries, causing Germany to declare a state of emergency. However, gas prices have since tumbled and now stand at levels last seen in late 2021, which is expected to ease inflationary pressures on consumer's pockets.
Despite the economic downturn, business activity in Germany expanded in May, according to the latest survey data, despite a sharp downturn in manufacturing. German Chancellor Olaf Scholz has expressed confidence in the economy's outlook, citing measures taken by the government to expand renewable energy production and attract foreign workers.
However, some economists predict that the decline may not be short-lived, with higher interest rates needed to control inflation, weighing on both consumption and investment in the long term. Furthermore, Germany's exports might suffer as demand is sapped by weakness in other developed economies, with concerns around China's economic performance posing a particular threat. The country's most significant trading partner is China, with the United States coming in a close second. Exports of German cars to China fell by 24% in the first quarter of 2023.
Overall, while Germany's recession around the turn of the year seems to have been relatively shallow, recent data suggests that the outlook may be uncertain. The sharp decline in consumer spending has been a significant factor in the country's economic slump, and while the easing of energy prices may provide some relief, other challenges remain. The International Monetary Fund predicts that German output will shrink by 0.1% in 2023, with some economists forecasting further declines in the coming quarters.