Germany’s budget mess is threatening to make an already difficult situation worse for the rest of the Continent.

What has typically been Europe’s economic engine room had already barely grown for 18 months by the time the Federal Constitutional Court ruled this month that a government accounting tactic to depress its budget deficit was illegal. 

Germany had lost much of its mojo as a result of the pandemic and Russia’s invasion of Ukraine, which compounded the ever-more urgent challenge of demographic decline. But the court ruling has thrown an almighty wrench into Berlin’s plans to get the economy back on its feet again, with generous subsidies for investment in the green transition (and equally generous ones to keep a lid on energy bills in the meantime). 

That spells bad news not just for Germany, but for its neighbors too. 

“With our automotive clients in Germany, things haven't exactly slowed to zero, but they've been enormously reduced,” Tiberio Assisi, who runs an aluminum alloy refinery in the Brescia region of northern Italy, told POLITICO. Both prices and volumes are down on the year, he said. 

The problem is cutting across almost all sub-sectors of manufacturing, according to Italian employers’ federation Confindustria. 

"The slowdown in Germany is clearly an aspect that worries us: We are talking about our main commercial partner,” said Confindustria’s regional president, Franco Gussalli Beretta.

Despite a period of low growth, Germany remains the indispensable market for Europe because of its size. Accounting for 29 percent of the eurozone’s gross domestic product, it sucked in €360 billion of imports from the rest of the currency union in the first three quarters of this year.  

While food and drink and other consumer goods account for a large chunk of that, it’s Germany’s place at the top of the European manufacturing value chain that really matters most, said Holger Schmieding, Berlin-based chief economist with Berenberg Bank. Which is why the recent budget upheaval is such a threat, he and others argue. 

“Uncertainty is, at the moment, the worst near-term risk to the outlook,” Schmieding told POLITICO. “I know that the government knows that, but I don’t know how they are going to resolve it.”

The Constitutional Court ruled that some €60 billion of borrowing earmarked for the green transition could not be assigned to the 2021 budget, when Germany’s notorious debt brake was still suspended due to the pandemic.

Not only that spending, but other spending also shoveled into off-budget "special funds," or Sondervermögen, now has a huge question mark over it.  For 2024 alone, a €17 billion hole remains that won’t be filled by the end of the year, Chancellor Olaf Scholz’s Social Democratic Party admitted Thursday. 

Germany accounts for 29 percent of the eurozone’s gross domestic product | Odd Anderson/AFP via Getty Images

That lack of clarity is poison for the economy, analysts argue. In a worst-case scenario, the issue “could become Germany’s Brexit” warns Marc Ostwald, strategist with ADM ISI in London, by creating “an unstable, ineffective government.”  

“If I’m a business and I don’t know what my tax liabilities and incentives are going to be, I’ll just hunker down and wait,” he explained.

Schmieding is more optimistic. He expects a temporary solution to the debt brake conundrum early in the new year. 

“We can’t function without a budget,” he said. The alternative would be “so un-orderly, so un-German.”

Delay is not a luxury that Europe, more broadly, can afford. China and the U.S. are already well ahead of the region in rolling out national industrial policies to cope with the new era of deglobalization, such as the Inflation Reduction Act. 

Research by the Munich-based Ifo think tank shows that, among relevant German firms, nearly 60 percent want to reduce their investment in Germany and raise their foreign investment over the next five years. Ifo’s Lara Zarges said that the U.S. stands out as the preferred destination for investment and that the desire to invest elsewhere in Europe has fallen “significantly” this year, particularly among industrial firms. 

Confindustria’s Beretta acknowledges that his region’s companies are now also looking further afield for opportunities. But for many, waiting for Berlin to fix itself will be agonizing. 

“We don't see a way out," said Assisi. "We're rooting for Germany for the sake of Europe at large. It's the most important country of all."