Is a recession coming? How Germany is deep in the whirlpool of recession

Germany’s economy is facing difficulties. In early 2024, discussions about whether Germany has entered a recession are everywhere. On one hand, financial markets remain calm, and corporate profits hit new highs; on the other hand, signals of high inflation, rising unemployment, and stagnant economic growth appear frequently. What exactly is a recession? How should we judge whether the economy has truly fallen into a recession? And why has Germany ended up in this situation?

What is a recession? How to identify it?

The definition of an economic recession is straightforward: a significant, widespread, and sustained contraction in economic activity. The most common criterion is two consecutive quarters of negative GDP growth, which is considered a recession. The logic is simple—healthy economies should grow continuously, and two quarters of decline indicate deeper issues.

Germany has another way of defining a recession. When the actual economic output increasingly diverges from the economy’s potential (i.e., the optimal utilization of all resources and labor), it is also regarded as entering a recession zone.

How does a recession occur? Common pitfalls in the global economy

Each recession has different triggers, but several main factors recur:

The chain reaction of inflation
When prices soar, central banks usually raise interest rates to curb inflation. Higher borrowing costs directly hit corporate investment and consumer spending, leading to layoffs. As people and companies tighten their belts and cut back, economic activity slows sharply. Companies are forced to optimize costs, reduce capacity, and lay off employees.

The surplus supply trap
During economic booms, companies tend to overexpand capacity. When demand peaks and begins to decline, mountains of goods and services go unsold. To clear inventories, companies can only further reduce capacity and cut employment, while declining consumer purchasing power reinforces this vicious cycle.

The freezing effect of uncertainty
Black swan events like wars and pandemics make economic outlooks unpredictable. Businesses and individuals adopt conservative attitudes, reducing spending and investment. This collapse in confidence can trigger chain reactions, eventually leading to a recession.

The blow of energy crises
Energy is the lifeblood of the economy. When oil and gas prices surge, especially due to geopolitical conflicts, the impact on energy-importing countries is particularly severe.

The bursting of speculative bubbles
During overheating periods, speculators chase high prices of certain assets, pushing prices to inflated levels. Once a sell-off begins, oversupply causes prices to crash, and bubbles burst. The dot-com bubble in 2000 and the 2008 housing bubble both triggered deep recessions.

The lessons from 2008 are especially profound. Banks, ignoring risks, issued subprime mortgages to borrowers unable to repay. These high-risk loans were bundled and sold, causing a systemic financial meltdown. Foreclosures, bank failures, stock market crashes, and massive global unemployment followed. It took years to contain this crisis.

Germany’s economy: from “European engine” to the brink of recession

Looking at Germany itself. According to official definitions, two consecutive quarters of GDP decline constitute a recession. Let’s review Germany’s performance in 2023:

• Q1: Growth
• Q2 and Q3: Stagnation
• Q4: Decline

Although the first two quarters technically do not count as “decline,” combined with the weakness in Q4, it effectively constitutes a recession. More importantly, according to the Ifo Institute’s forecast, Germany’s GDP will continue to decline by 0.1% in Q1 2024. This means Germany has met the definition of “two consecutive quarters of negative growth” for a recession.

The Ifo Institute concludes: Germany officially entered recession in winter 2023/24.

As Europe’s largest economy and a historical economic powerhouse, how did Germany end up here?

The fundamental reasons for Germany’s recession

Germany faces structural and multi-dimensional problems:

Sharp contraction in construction
Germany’s Construction Purchasing Managers’ Index (PMI) fell to a three-year low in October 2023. The slowdown in housing construction projects is the most severe since 1999. This reflects rising mortgage rates causing both consumers and developers to hit the brakes.

Impact of the European Central Bank’s rate hikes
Raising borrowing costs weakened capital attractiveness, forcing many ongoing projects to be delayed or canceled.

Long-term shadow of the Ukraine war
The Russia-Ukraine conflict has hit Germany especially hard. As an energy importer, Germany is deeply troubled by high energy prices. Although the government introduced energy subsidies, their long-term effectiveness remains uncertain.

Weakening external demand
Global economic slowdown directly drags down Germany’s exports. Meanwhile, consumers are still recovering from high winter energy costs and increased holiday spending.

Lack of confidence
High energy costs, high interest rates, and economic uncertainty collectively dampen investment and spending willingness.

What does a recession mean for ordinary people?

A recession is not just an abstract number; it directly affects everyone’s life:

Rising employment risks
When corporate profits decline, the first to be cut are labor costs. Layoffs increase, job opportunities decrease, and job hunting becomes harder. Even if you keep your job, your bargaining power diminishes—companies can lower wages, cut benefits, and retract flexible work arrangements.

Continuous erosion of purchasing power
Wage growth cannot keep pace with rising prices, making consumers relatively poorer. Large purchases like real estate, cars, and appliances become out of reach.

Tightening credit
Banks become more cautious. Even if your income is sufficient, banks will scrutinize your financial situation and job stability more strictly. Opportunities for low-interest loans decrease, and borrowing costs rise.

Psychological stress surges
The mental burden of economic hardship cannot be ignored. Anxiety and stress increase, harming personal well-being and further dragging down the overall economy.

Personal responses and opportunities in the recession era

Although recessions are harmful to the overall economy, they are not all bad for individuals. Proactive strategies can mitigate risks and even seize opportunities:

Enhance your value
In a competitive job market, upgrading skills and knowledge is crucial. Attending training courses and obtaining new certifications can help you stay competitive.

Diversify income sources
Part-time jobs or side businesses are effective ways to hedge against recession. Online trading and investing are worth considering—they can be done outside of your main job, and the learning curve is manageable. Many trading platforms offer educational resources and training support.

Debt repayment
If you have spare funds, paying off debts is wise. With interest rates possibly rising further, early repayment can save on interest.

Contrarian investing
As Warren Buffett said, “Be fearful when others are greedy, and greedy when others are fearful.” During recessions, asset prices are often depressed. Smart investors position themselves to buy quality assets at lower prices, waiting for economic recovery to profit.

Gold and other safe-haven assets recently hit record highs, reflecting market pricing of economic uncertainty. Additionally, geopolitical conflicts and the upcoming 2024 US presidential election may create short-term opportunities for traders.

For traders, a recession is not a disaster. Market volatility provides trading opportunities. The market’s direction is irrelevant to traders; what matters is that the market moves.

Outlook: When will the German economy recover?

Experts are not optimistic about Germany’s economic prospects in 2024. Commerzbank Chief Economist Jörg Krämer predicts a 0.3% decline in GDP. Clemens Fuest, president of the Ifo Institute, describes the outlook as “quite bleak.”

Germany has officially entered recession, which is now a reality. Although recession inevitably brings pain, it is also a process of market repricing, clearing inefficient companies, and allowing strong players to emerge. For ordinary people, it’s a time to improve oneself and protect oneself; for traders, it’s a time of market vitality. The key is how to find your own opportunities within the recession.