Germany must now be on the UK’s economic radar

The prospect of a centre-left coalition government in Germany for the first time in 16 years boosts hope that the pendulum of economic policy will swing towards more intervention, writes Phil Thornton

Boris Johnson and Angela Merkel haven’t always seen eye to eye, but the PM cannot afford a decline in relations when the incoming administration takes office (Getty)

Given the common language, shared history, and commonality of cultural interests, it is no surprise that there should be such a focus on the outcome of US presidential elections – not just in the make-or-break Biden vs Trump battle of 2020, but in every contest that has taken place over the last four decades.

More surprising is the relative lack of interest in the recent election for the chancellorship of Germany, which will draw a line under Angela Merkel’s 16 years as leader – longer even than Margaret Thatcher’s reign.

From an economic perspective, what happens in Germany is vitally important for the UK, not just because it is Europe’s largest economy but because of the influence it has within the European Union.

It is worth remembering that, while the US was the leading country for UK exports in 2019, taking 15.7 per cent of all overseas sales, around half of UK exports went to the European single market – the UK’s largest trade partner.

Those proportions may change, depending on the nature of the trading relationship the UK develops with the EU post-Brexit, but our geographical proximity to the EU means it will continue to be our primary market for imports and exports – something economists call the gravity model of trade.

Change is afoot. By the end of the year, it is likely that Germany’s centre-left candidate Olaf Scholz and his Social Democrats (SPD), who took 25.7 per cent of the vote, will have formed a government with the Greens and the socially liberal but economically conservative Free Democrats (FDP) – known as a “traffic light” coalition because of their respective red, green and yellow party colours.

That would end the coalition of the centre-right CDU and CSU parties that have ruled Germany since the SDP lost power in 2005 – although there is a chance that, with 24.1 per cent, the union could negotiate its way back into the chancellery.

Assuming, for now, that the SPD prevails, Scholz will inherit a lengthy agenda of European issues that must be resolved at the EU level. This includes the need for new fiscal rules in the wake of the huge deficits racked up while dealing with the Covid-19 pandemic.

Then there is the “Fit for 55” programme to achieve Europe’s climate goals, including the controversial carbon border adjustment mechanism; the continuing debate over how to tax the so-called “Faang” digital giants; and drawing up an economic and security strategy with China.

It is clear that how the EU tackles the climate emergency, the tax challenges arising from the digitalisation of the economy, and Xi Jinping’s increasingly authoritarian leadership will have an impact on the UK, too.

Financial markets may have breathed a sigh of relief that the vote-split means Germany will not end up with a red-green-red coalition comprising the SPD, the Greens and the far-left Linke party. In any event, it will be difficult for the incoming administration to reach the two-thirds majority needed to change the constitutional “debt brake”, which limits net borrowing to 0.35 per cent of GDP.

But a shift in German policy is likely to lead to a more relaxed, greener, centre-left policy stance, according to Holger Schmieding, chief economist at Germany’s Berenberg bank.

While he expects no change in the country’s overall economic outlook, his analysis of the difference between an SPD-led coalition and a CDU one shows that the former would include an increase in welfare spending, more support for low-income tenants in high-rent hotspots, and a hike in the minimum wage to €12 an hour from €9.60.

At the margins, this would add to evidence of a global shift in the emphasis of economic management, to a point further away from austerity and balanced budgets – known in Germany as schwarze null, or “black zero” – and towards a more proactive tax-and-spend policy.

The most obvious example is Joe Biden’s Democratic administration, which is fighting to get approval for a $1.2 trillion infrastructure bill and a larger $3.5 trillion budget plan, which would pump funding into America’s social safety net.

Closer to home, centre-left parties head coalition governments in Italy and Spain, while in Norway, Labour is in talks to form a left-leaning coalition after eight years out of power.

In Hungary, an opposition coalition of six parties, including the Hungarian Socialist Party, could unseat right-wing prime minister Viktor Orban in next year’s election.

With the UK under Boris Johnson’s sway, and France looking like a three-way battle between centrist Emmanuel Macron, the conservative Les Republicains and Marine Le Pen’s far-right outfit, the pendulum has hardly swung back fully. But it is time for the Brits to look as intently at Berlin as they do at Washington.