The introduction of the iconical Volkswagen Beatle marked the start of Germany’s modern industrialisation process.

By Josephine Valeske
1 February 2020

Germany: The industrial machine

  • Germany's trade surplus is among the highest in the world.
  • Why the German trade balance has everything to do with it highly competitive industry.
  • The long-term rise of Germany's currency as a reflection of its competitiveness.
By Josephine Valeske
1 February 2020

Since President Donald Trump started putting up tariffs against China in January of 2018, the trade war has dominated discussions on the health of the global economy, especially in the financial press. What has gone under the radar in the course of these discussions is the remarkable performance of Europe’s largest economy; Germany.

In 2018, the German trade balance surplus was recorded at an astounding $275 billion, and stood second only to that of China, whose economy is more than three times the size of that of Germany. This article aims to show that the growing external surplus of Germany is a manifestation of its increasing global competitiveness, and has resulted in the steady rise of the value of its (and Europe’s) currency over a long period of time.

Not a one-off occurrence

Germany’s extraordinarily high trade surplus is not a one-time occurrence, but has been a long time in the making. In fact, since 2000, Germany has been among the top three nations with the largest Dollar-value trade surpluses, occupying the number one spot for half of those years. Being one of the largest exporters of goods over the past few decades, alongside the much larger economies of the US and China, has earned Germany the title “world export champion”, and shows how globally competitive its exports are.

This spectacular trade performance of the German economy can be traced to the early 1990s, when a major surge in export activity propelled the trade balance from near-zero to a surplus of some 4% of GDP. That surplus has been growing consistently ever since, reaching a record high of 8% of GDP in 2016 and currently (2018) stands at about 7% of GDP.

Manufacturing focus

But what explains Germany’s trade success? A look into the composition of the country’s GDP provides the framework for an answer. Although its workforce is now largely employed in the services sector, German manufacturing is still the true backbone of the economy and the key to its growing economic success. As the chart below shows, manufacturing in Germany is much more important than in other OECD countries, with the sector accounting for 21% of the country’s GDP. In contrast with trends in other advanced economies, the manufacturing sector’s share in German GDP has not shrunk in the last two decades.

Export-orientation

But manufacturing per se is not the reason for Germany’s success. It is rather the export orientation of this manufacturing, in the manner of the successful East Asian economies, that is the real secret of its success. Currently some 85% of German exports are manufactures. In fact, the German economy is one of the most export-oriented of the major advanced economies, with exports having risen sharply during the past 40 years relative to the size of the economy, from around 15% of GDP in 1970 to 45% of GDP in 2018. This compares to the US, UK, Japan, and even China, who all have ratios of less than 20% of GDP.

The three pillars of the manufacturing base

Germany has always been renowned for its high-quality manufactures, particularly when it comes to German automobiles and machinery. These two product categories account for almost 40% of Germany’s manufacturing sector, with the growth of the automobile sector being particularly noteworthy (see chart below). Germany’s automobile producers rank among the top companies in the world in terms of revenue, with Volkswagen being the 7th largest of all companies and the largest among global manufacturers according to Forbes.

Although it has not grown as much as the automobile sector, Germany’s industrial machinery sector can also be seen as having contributed to the growth of German export-oriented manufacturing sector. The products of this sector are highly specialised and have become synonymous with quality and durability. Accompanying this expansion and development of the transport and machinery sectors has been the development of related computer and back-office services, with companies such as Siemens and SAP being two prime examples of this development.

As the chart below shows, a third pillar of the manufacturing base of the German economy is the industrial chemicals sector. As another high-value added product, industrial chemicals have contributed significantly to Germany’s growing exports and trade balance, and indeed is another area in which Germany is highly competitive (see chart below). Two of the largest companies in this sector, that are among the largest companies in the world, are BASF and Bayer.

Resulting in a stronger currency

One of the most important manifestations of Germany’s trade success has been the strength of its external payments position, a strength that is most visible in the continuous appreciation of the Deutsche mark and later the Euro (see chart). Against the US dollar, the currency has trended upwards continuously since the late 1960s, with the Euro’s recent weakness the result of an aggressive monetary policy that pushed German (and European) interest rates to record lows, well below corresponding dollar interest rates. No doubt this has also boosted the trade surplus of Germany in recent times, although the underlying fundamental driver remains the industrial machine.

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