Germany is the fifth-largest economy in the world and the largest in the EU. Germany relies on the economic model of a social market economy, which combines elements of market capitalism with a generous welfare state and strong labor protection. Although Germany has an impressive economic track record, the economy is also suffering from structural problems such as high unemployment, low GDP growth, a rigid labor market and an unsustainable welfare state. In addition, the economies of those states which used to represent East Germany are still underperforming. As a result of painful reforms implemented by former Chancellor Gerhard Schroeder, Germany was able to fully take advantage of a booming global economy after 2003. Germany’s strength lies in manufacturing and the economy depends excessively on exports as a result of which it is one of the most volatile in the world. Small and medium-sized firms which specialize in niche products, rely on bank financing and are often privately owned make up the backbone of the German economy. These firms, which are highly dynamic and competitive, employ roughly two-thirds of the German workforce.
Looking forward, Germany is facing strong economic headwinds. The economy which entered into a severe recession in the second quarter of 2008, is set to register one of the sharpest GDP declines in 2009 among industrialized countries despite a large fiscal stimulus package. While the German economy is in a good position to take advantage of a rebound in global growth it has been facing severe criticism for its export-dependent growth model and calls to rebalance the economy by relying more on domestic demand are growing louder. Furthermore, the recession will leave Germany with a much larger budget deficit which is already under pressure from ballooning social security spending, largely the result of an ageing society.