Presented by ESMT Berlin
The German economy currently faces challenges in many areas. Fabian Billing, Managing Partner for Germany and Austria at McKinsey, discusses what the country can do now to remain globally competitive.
Interviewed by Klara Marie Schroeder.
With its world-class engineering, Germany stood out as an exporting powerhouse for decades. Germany is a success story. Germany is the world’s third-largest economy and has grown on par with the US over the past two decades. And it has mastered major challenges of the recent past – like the coronavirus pandemic. But when it comes to economic competitiveness, the picture is not as bright anymore.
Although there are numerous approaches to securing growth and prosperity, our economic momentum has slowed and needs to be accelerated again. With -0.6% decline, the GDP development was rather at the tail end of Europe last year and will also not be the engine of Europe in 2024 – projected to be +0.2%. In the IMD World Competitiveness Ranking, Germany has moved from 6th place in 2014 to 22nd in 2023.
Germany has not transformed the growth industries of the past quickly enough and has been too slow to develop new growth industries. With weak economic dynamics in key export markets, higher inflation due to a larger energy price shock, high labor costs, a stronger decrease in real wages than in other economies and complex administrative processes, foreign investors think twice before investing a euro in Germany. Thus, in the past two years, we had record high net investment outflow: 94 billion euros, for example, in 2023.
I don’t like that term and don’t support it. Germany’s situation is different from 1999 when the Economist first described Germany as the sick man of Europe. There is no doubt that another stiff dose of reform is needed to bring back the required economic momentum. Our economy needs to accelerate in many areas to regain its global economic competitiveness.
But Germany has all the ingredients to outcompete: Germany holds a leading position in key UN sustainable development goals such as prosperity, income equality, social progress, quality of life, and sustainability. It ranks eighth in the Global Innovation Index of the most innovative countries in the world. With 25,000 registered patents per year, Germany is the second-most important research location after the US. Eight universities rank among the world’s top 100, employees in Germany are very well-trained.
Our economy ranks high on the world innovation ranking. Our economy has a balanced economic structure with a strong SME sector that has a sound capital structure with ~32 percent equity on average. Germany has a AAA country rating – in the G7, only Canada also achieves this. I could continue the list almost endlessly. So, there is a lot of muscle that we have – we just need to apply this in a powerful way. It is also crucial that government and the private sector effectively work together.
There is no silver bullet, no single solution. We need to have high ambitions, be faster and more decisive in decision making and execution and collaborate better. Nevertheless, we need to place some strategic bets where we make a difference. A few early steps in the right direction are apparent regarding technologies like chips or battery production.
We need to play a role in strategically relevant technologies, among others GenAI, Cloud, and the respective proprietary infrastructure. We need to ensure availability, sustainability, and cost efficiency of energy supply, and we need to have a well-functioning and efficient infrastructure across the country. Those are only a few examples that can create attractive investment and site conditions. As I said, there is no one single solution. Conversely, this also means that prioritizing just one or two topics is not an option
Many companies continuously discuss how to bring the ICT costs or other tech investments down. You could also argue the other way around. Wouldn’t it be better to increase investments in technology and therefore enable reductions in other areas of the P&L. This is where I stand. Of course, this needs very rigorous management – it would be wrong to use more investments for areas like legacy IT. However, if the investments are effectively leveraged to modernize the company’s technology, this can help to unlock significant improvements in the operations and the P&L overall. Technology-enablement is one key ingredient for competitiveness.
However, it is not only the allocation of investments within companies. It is also the capital injection into start-ups. Just to give an example: Start-ups in the US receive seven times more investment per capita before going public than start-ups in Germany. A significantly lower proportion of GDP flows into late-stage financing in Germany (0.2%) than in leading countries such as the US (0.6%) or Estonia (2.4%). Late-stage financing in Germany often comes from abroad, which harbors the risk of shifting value creation. This not only leads to weaker commercialization of new technologies, but also to a lower number of start-ups that develop into large companies over the long term.
Of course, there is collaboration between the public and private sectors – however, to step change our economic development, this collaboration could be significantly intensified and enhanced. We could define a set of “missions” and then collaborate to deliver them. Conceptually, you could think about an acceleration formula with the following elements: we could define a mission with concrete targets.
Acceleration then could be achieved by 3 elements: 1) catalysts, i.e., what are the elements that need to be put in place to enable the mission; 2) roadmaps, i.e., the targets broken down to what needs to be delivered quarter by quarter (too often we only have a long term target but don’t operationalize it concretely); 3) platforms, i.e., who are the respective stakeholders from public and private sector that need to collaborate to make it happen. Bringing this all together would create a masterplan for our economy that could be executed similarly to running a comprehensive transformation program.
The “winner-takes-most” effects are increasing, and adoption of new technologies is massively accelerating. In 2022, McKinsey identified ten transformational technologies likely to drive the global economy. Europe trails China and the United States on eight of them, whether on innovation, production, or adoption. It does well on cleantech and next-generation materials but is far behind in next-generation computing, distributed infrastructure, and applied artificial intelligence.
Europe and Germany in particular need to successfully compete in these technologies to retain strongholds in industries where it has traditionally led the pack. For example, Germany is a leader in the automotive industry, but the technology gap could make us fall behind in autonomous driving. Technology is one key to competitiveness.
Technology, however, only achieves its transformative value when a clear strategy, culture, and capabilities meet execution and delivery. Looking in the rear-view mirror or trying to copy what was successful elsewhere years ago is not a recipe for success. We need to lead from the front. We need to be bold regarding tech investments and accelerate the adoption – for example, scaling the adoption of GenAI in companies could significantly contribute to their competitiveness against industry peers.
The public debate is often polarizing. Leaders can ask how the regulatory environment could be more supportive of disruption and innovation. Is the regulatory system too slow, complex, and cautious for an environment where technology is changing so fast? Developing fast-track regulatory approval and decision-making processes would certainly be helpful. But the private sector needs to step up too. Private-sector companies in Germany account for over 70 percent of value creation.
Lifting ambitions can certainly make a difference. The current situation provides a tailwind for fundamental shifts and innovations in areas such as batteries, semiconductors, on GenAI, mobility, or circularity. Leaders must challenge their organization and master ambidexterity between short-term resilience management and long-term growth transformation. Listed companies that fundamentally transformed their business models during the 2008 financial crisis were able to increase their total shareholder returns by 225 percent over the following ten years, while companies that only developed incrementally increased their returns by just 66 percent. For that, we need decisive leadership.
Artificial intelligence is a game changer in all industries – whether in the automotive, chemical, energy, pharmaceutical, or healthcare industry. In two or three years, we will experience a huge spread of AI. This will fundamentally change in the future. Generative AI will be found everywhere: from research and development to production to sales and customer management.
We expect an increase in productivity of around 20 percent. In individual cases, productivity can even be increased between 50 and 75 percent. AI will be crucial for business success. That is why companies will also develop their own AI applications tailored to their specific needs. Yet many companies are still taking a cautious approach to GenAI adoptions. I am convinced that the bold fast movers or fast executors will benefit disproportionally from the positive impact of GenAI adoption.
The biggest deterrent to economic growth – and not only in Germany – is labor productivity. In healthcare, for example, labor productivity has not increased significantly in the past 25 years. New technologies like AI will greatly increase labor productivity and could therefore boost economic growth. However, we must not forget the human side of the equation. As generative AI automates many tasks, a new set of cognitive and social-emotional skills will be in high demand.
Companies that redesign jobs to put humans at the center, enabling them to leverage their creativity and problem-solving abilities alongside AI’s capabilities, will be best positioned to unlock the true potential of this technology. Employees who feel their work is meaningful will be more engaged and productive. By focusing on both AI and human talent, companies can achieve significant productivity gains and secure a competitive advantage. Finally, AI can mitigate the negative impact of demographic change on the labor market by compensating for the shortage of skilled workers, but it requires an adaptation of corporate cultures to exploit the potential of this technology.
With a country-by-country perspective, we will not achieve the scale required for really strong competitiveness on the global playing field. Markets and economies like the US, China, and also increasingly India are at a completely different scale than any country in Europe. To really excel we need to take a European perspective.
This includes being clear about which decisions are taken on a European level vs on a national level (and not just adding another layer), crafting a joint European agenda regarding priorities and investment enablement, simplifying regulatory processes on all levels, and strengthening the collaboration among players from this region. Many promising initiatives are on their way – however, applying the “acceleration formula” mentioned earlier, we could massively accelerate the execution of the most important priorities.
Fabian Billing has been Managing Partner of McKinsey Germany and Austria since March 2021.
He began his career at McKinsey in 1999. Fabian Billing supports clients in implementing extensive transformations, operating model redesigns, growth strategies, and merger management. He has been working intensively in the telecommunications and high-tech sectors and with industrial clients for more than 15 years.
Fabian has written several books on developing a career in consulting, addressing the recruiting process and relevant management tools.
