Feet of Clay

The energy crisis is threatening to de-industrialise Germany and turn it into a Third-World country

When examined in great detail, Germany's economy is a highly complex yet well-balanced mechanism made of interconnected parts ranging from family-owned businesses and large corporations to hi-tech manufacturing facilities and farming compounds, exporters and exporters and importers. All of these work perfectly to fuel growth and prosperity as if they served as the physical expression of Max Weber's The Protestant Ethic and the Spirit of Capitalism.

But once you distance yourself far enough so that you can start seeing the forest for the trees, it becomes apparent that all this complexity, including thousands of varieties of bread, the superior automotive industry, the world's best health care system, great-tasting beer, is a product of a very simple function.

For many decades, Germany's economy, the world's fourth largest, had been buying cheap raw materials from Russia to convert them into high-tech products and resell to China. At this juncture, however, what once seemed a perfectly calibrated algorithm faltered at its incoming and outgoing ends. And this is shattering what once was the oh-so-comfortable and familiar fabric of German life.

Last year, China, Germany's principal trading partner, bought USD 100 billion worth of German goods. This year, however, it will not be able to afford to buy as much due to its economy's contraction precipitated by the recently introduced harsh anti-COVID measures.

Other buyers of German products are not doing so well either: Europe is going through a crisis, Russia is under sanctions, and the whole world is in recession. This makes Germany's job of selling its products abroad all the more challenging, while domestic demand fails to mitigate the problem.

The outbreak of the sanctions war ended the flow of cheap raw materials and energy from Russia. At one point, gas prices were as high as USD 3,500 per thousand cubic meters. Although they have since slid down, this changes very little. Next year's electricity prices rose 15 times while the price of gas grew ten-fold.

Of course, the government will chip in and help households pay their utility bills. It should be noted, however, that the policy of subsidising heating and electricity bills is fraught with danger because such measures tend to stimulate consumption which, in turn, results in an even greater shortage of heat and electricity and drives up their costs. The government will ultimately be compelled to spend even more on subsidies pushing itself into a vicious circle.

For instance, Spain capped gas fees this summer, but the price freeze led to a 42% spike in gas consumption. To encourage people to save energy, economists suggest allowing the invisible hand of the market to balance supply and demand. Given the right incentives, consumers are expected to get thriftier, reducing the overall need and stabilising fuel prices. After all, people can turn down their thermostats, wear two or even three sweaters, switch to energy-saving bulbs and take fewer showers to get through the winter. Still, energy use by households is only part of the problem.  

Feet of clay
BASF, the world's largest chemical company, is cutting ammonia production further due to soaring natural gas prices, with potential ramifications from farming to fizzy drinks.

When it comes to reducing energy use, industrial consumers are struggling far more than households. When energy prices soared, the German industry was hit the hardest. Currently, German plants consume about 20% less gas than they did this time last year. This means that they produce less but spend more per unit due to worsening economies of scale. As a result, they are having trouble competing with companies based in other countries where energy is cheaper.

Blue-chip German companies have lost nearly 30% of their value since the energy crisis broke out. Thyssenkrupp, a giant chemicals and steelmaking conglomerate, has lost half its market value since January. Things are particularly hard for Germany's chemical industry which relies on gas as a power source and a feedstock. For example, BASF, another chemicals giant, has been cutting output for several months.

These corporations have built colossal manufacturing facilities in Germany, so they are not as flexible as medium-sized companies that will probably take this opportunity to relocate to other countries. According to The Economist, 20% of German companies with up to several thousand employees consider shutting down production at home and transferring their operations abroad.

Among other things, this will lead to a dramatic reduction in skilled jobs in Germany. To put it bluntly, a wealthy burgher, an engineer, or a factory worker may suddenly become unemployed.

This is more than an economic problem. It is also an explosive social issue, especially in Germany: they say that after losing his job, the German husband still pretends to go to work every morning so that his family and neighbours do not find out the truth. A social explosion is inevitable if the number of unemployed husbands and wives becomes critically high.

All of the above falls under the classical definition of deindustrialisation, a process of economic and social change caused by the reduction or destruction of a nation's industrial capacity.

The outlook for Germany remains rather bleak. Goldman Sachs calculations show that in the worst-case scenario, the German government has no option but to introduce obligatory gas rationing this winter, resulting in a 65% industry curtailment. In addition, the middle class is likely to shrink to 5% of the population. With runaway inflation of around 10%, closed factories and a deepening divide between the rich and the poor, Germany may resemble a Third-World agricultural economy in a year or so.

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