By “The Globe” written by Eurizon Asset Management
One year after the launch of the vast multi-year spending plan for defence and infrastructure, the German economy is recovering. The plan was announced by the government in the spring of last year, but was only implemented from the autumn onwards, after Parliament approved the budget law.
Since then, the government has significantly increased public spending and plans to raise it further, drawing on the €500 billion off-budget fund earmarked for investment in infrastructure and the energy transition. Higher defence spending, meanwhile, is financed partly through the special Bundeswehr fund and partly through the reform of the debt brake (Schuldenbremse), which allows defence spending above 1% of GDP to be excluded from the budget constraint.
In addition, the government has adopted a series of further measures, including investment incentives, a gradual reduction in the tax burden on companies, support for research and preferential electricity tariffs for industry. Just before Christmas, it also launched a new initiative, the Deutschlandfonds, aimed at mobilising private capital in support of investment.
The effects of these measures have been felt across the economy: after three years of virtual stagnation, GDP has been growing again since the fourth quarter of last year. The recovery continued in the second quarter of this year, despite higher energy prices linked to the conflict in the Middle East.
The resilience of economic activity has prompted economists to revise their consensus growth forecasts for 2026 upwards, after significant cuts in recent months amid fears that the conflict between the United States and Iran could have a heavier impact on the economy.
Growth has been driven mainly by public spending, but exports have also made a positive contribution.
The growth impetus generated by the government is particularly visible in infrastructure works and civil engineering, as well as in the category of “other transport equipment”, which has recorded a sharp increase in orders, reflecting major public contracts in the defence sector, particularly in aerospace and shipbuilding.
The outlook also remains favourable. Although recent data on real activity point to a possible slowdown in industry owing to certain temporary factors, such as the drought that has made navigation on the Rhine more difficult, the underlying trend continues to point towards recovery.
Leading indicators, including industrial orders and business sentiment indices (PMI and Ifo), have improved markedly in recent months, signalling not only the continuation but also the strengthening of the recovery, despite the recent sharp rise in energy prices and ongoing geopolitical uncertainty.
The coalition government led by Friedrich Merz is counting on precisely this stronger growth to stem the haemorrhaging of votes to the far-right Alternative für Deutschland (AfD). In the recent state elections, the AfD gained further ground, especially at the expense of the CDU, the Chancellor’s party.
But time is on the government’s side: the next federal election is not due until 2029.
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