Germany pledges reforms as economy shrinks 0.3%

Germany’s Finance Minister Lars Klingbeil told Funke Media Group this week that the coalition government will push through new reforms by the end of 2025.

The pledge comes as Chancellor Friedrich Merz’s administration faces rising pressure to fix an economy that’s clearly out of breath. Klingbeil said the coalition still has what it takes to deliver actual change, promising “important decisions” in the coming months on key areas like health care and pensions.

Those promises land just as fresh economic figures hit the public. Germany’s economy shrank by 0.3% in the second quarter of 2025, way worse than the early estimate of -0.1%, and far from what the government had hoped for.

The Federal Statistical Office said the drop was mostly caused by weak manufacturing, which had boomed earlier in the year as companies rushed orders to the United States to avoid President Donald Trump’s tariffs. That artificial growth is gone now, and the bottom’s showing.

GDP weakens as tariffs hit exports

Germany’s fragile growth got knocked further by multiple hits: lower household spending, falling investment, and a declining construction sector. New data from the Statistical Office revised household consumption down to just 0.1%, citing poor performance in food, hotels, and accommodation.

Meanwhile, government spending rose slightly by 0.8%, but it wasn’t nearly enough to stop the bleeding. Net exports also dropped, dragged down by weaker global demand and tariff pressure from across the Atlantic.

Klingbeil said Germany needs to clean out its bureaucracy to get things moving again. “We must free life in this country from bureaucracy so that it is fun again to start a business, run an association or build a house,” he told Funke.

But that message competes with the cold reality that Bundesbank already warned the country might not see any growth in the third quarter either. If that happens, it’ll be two quarters in a row of negative or zero growth, a textbook recession.

A brief spark at the start of 2025 had raised hopes, mostly because German firms were front-loading trade with the U.S. to dodge Trump’s new import taxes. That rush pushed up GDP early in the year but left a vacuum behind it. Now, there’s no more buffer.

The PMI data released Thursday by S&P Global gave a small sign of life, showing business activity grew in August for the third straight month, and at the fastest pace since March. But even S&P warned the improvement was modest. It’s not enough to offset what’s happening in the real economy.

Tariffs, debt limits, and global drag intensify pressure

Klingbeil and Merz’s government is trying to act. Earlier this year, it pushed through a constitutional change to the debt brake rule, allowing defense spending above 1% of GDP to escape borrowing restrictions. It also approved a €500 billion extra-budgetary fund to invest in infrastructure.

Still, those moves haven’t stopped the decline. The impact of Trump’s 15% tariffs on most European products is already being felt. And the auto industry’s hanging in limbo, waiting to see if the U.S. will bring car tariffs back down from 27.5% to 15%.

Carsten Brzeski, an economist at ING, said the tariffs and ongoing economic changes are already showing up in corporate reports. “Recent corporate results were already a painful reminder that US tariffs, but also structural transitions, were in full swing in the second quarter, weighing on company results,” Brzeski said.

He added, “This is a trend that won’t change too much in the third quarter, with US tariffs of 15% on most European goods and uncertainty over whether (and when) the 27.5% tariffs on automotives will be brought back to 15%.”

Germany sends about 10% of its exports to the United States. That’s a huge piece of the puzzle, and if that window keeps tightening, companies will feel it quarter after quarter.

This all traces back to 2022, when Russia’s invasion of Ukraine helped derail global supply chains and shook energy markets across Europe. That shock hit Germany hard, and the effects are still here. Add that to an aging population, weak global growth, and too much red tape, and the picture gets darker.

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