Reading Time: 2.9 minutes Based on recent data and estimates, German economic growth is expected to remain solid, backed by robust world trade, a strong labour market and significant capital investment. Healthy employment gains have pushed the unemployment rate to a record low (currently 3.4%) dropping by 9.3% compared with July 2017. Germany’s thriving labour market underpins consumption and helps improve job quality as the number of full-time workers grows strongly. Moreover, broad-based wage growth benefits lower income earners in particular. Employment growth has been strongest in health care as well as personal and administrative services, moderating aggregate wage growth. Strong immigration, mostly from other EU countries, has also kept wages from rising more vigorously. Recent collective bargaining outcomes suggest a modest increase in wage growth. Unions and employers have negotiated non-wage benefits, such as a better work-life balance through more possibilities to reduce their working time temporarily. Q2 GDP came in at 0.5% following an upwardly revised 0.4% expansion in the previous quarter, beating the market consensus of 0.3%. Positive contributions to the GDP growth came from domestic demand, mainly boosted by gains in household consumption and government spending. The current account surplus, approximately 8% of GDP, is projected to drop on the back of strong domestic demand, fuelling imports. This has dropped steadily since 2015 when it was 9%. Fiscal policy is moderately expansionary, but solid cyclical revenue growth should maintain the budget balance in surplus. With Germany’s specialisation in capital goods, the country has benefitted from the broad-based global upswing. In the context of high capacity utilisation and easy credit, this has promoted strong machinery and equipment investment. However, in the first quarter, strikes and a flu outbreak lowered manufacturing production temporarily. Government spending also decreased before the new government took office in March. Business sentiment remains high despite a recent decline related to concerns about rising protectionism. Low interest rates, high capacity utilisation and an increase in housing demand continue to support strong residential and business investment. However, there has been a slowdown in consumption as higher inflation curbs real wage growth. A number of economists have suggested that fiscal space is available to increase spending on education, broadband investment and low-emission transport infrastructure, all of which would strengthen productivity in the long term. Housing demand and construction has been boosted by immigration, rising household incomes and low interest rates. However, the construction sector has now reached capacity constraints, limiting faster growth going forward. House prices have risen considerably, especially in urban areas, where the supply of buildable land is scarce. Access to affordable housing is increasingly difficult for lower and middle-income households. However, prices are still below long-term averages and mortgage lending has been in line with income growth, suggesting that financial risks remain limited. The government’s fiscal stance is projected to remain expansionary throughout this year and into 2019, with the government announcing plans to reduce unemployment insurance contributions by 0.3% and to shift about 0.5% of health insurance contributions from employees to employers. The government also plans substantial tax rebates and grants for families with children who want to buy a home. All of these measures should boost household demand. In addition, government spending to better integrate refugees, improve childcare provision and upgrade schools’ digital equipment is expected to rise. Most of these measures were announced in the government’s coalition agreement. Overall tax reductions and spending increases are projected to amount to 0.5% of GDP between 2017 and 2019. Nonetheless, strong cyclical tax revenue growth is likely to increase the government surplus to 1.5% of GDP by 2019. The fiscal stance appears appropriate, as most of the envisaged measures promote long-term growth and inclusiveness, and there are no indications of overheating in the economy. However, subsidies for owner-occupied housing could push up house prices further, given capacity constraints and overall relatively inelastic housing supply. Higher house prices risk further reducing access to affordable housing for lower-income households. Concerning the financial markets, the DAX, which is the benchmark index for the German equity market, has had a turbulent first half of the year and is down about 6% year-to-date. Car manufacturers and banks have contributed the most to these losses. Volkswagen, which has suffered from the emissions scandal, is down over 21% year-to-date and Daimler has fallen around 12% over the same period. Both companies have also been impacted by the new tariffs imposed by the US on car imports. Deutsche Bank and Commerzbank have also had a difficult start to the year, with their share prices down 25% and 15% respectively. Deutsche Bank has struggled to deliver sustainable long-term profits after multiple strategy and management reshuffles, and is due to drop out of the Eurostoxx 50 index of leading European stocks. Another stock that has weighed on the index has been Bayer (down 25%), which acquired US peer Monsanto for $63 billion including debt. There have been several positive stories in the index too. Deutsche Boerse, Vonovia and SAP have all returned between 15% and 30%. Disclaimer: The views thoughts and opinions expressed within this article are those of the author, and not those of the companies in the Capital International Group and as such are neither given nor endorsed by them. Information in this article does not constitute investment advice or an offer or an invitation by or on behalf of any company within the Capital International Group of companies to buy or sell any security.