FXTRADING Financial Focus (Asia-Pacific 02/02)Germany shows renewed signs of economic divergence

Germany‘s economy has released a set of signals at the start of the year that are intertwined yet not fully aligned. On the one hand, inflation has moved back above the European Central Bank’s policy target, indicating that price pressures have not fully dissipated; on the other hand, the continued weakening of the labor market serves as a reminder that the recovery of economic fundamentals still faces clear shortcomings. This coexistence of heat and cold has once again shrouded the tentative signs of improvement seen toward the end of 2025 in uncertainty.

From a price perspective, Germanys January inflation rate rose year on year to 2.1%, slightly above market expectations for unchanged inflation. Core inflation also edged higher, reflecting the persistence of certain price pressures. However, analysts generally believe that the structure of this rebound is not aggressive. A phase-driven rise in food prices was the main contributor, while service-sector inflation—previously a major concern for policymakers—has cooled noticeably, easing monetary policy tensions to some extent.

In contrast, signals from the labor market are more thought-provoking. Unadjusted data show a sharp increase in the number of unemployed people in January, pushing the total above the 3-million threshold to a level not seen in more than a decade. This shift is not an isolated, one-month fluctuation, but rather the cumulative result of several years of weak economic growth feeding through to employment. German government officials have also acknowledged that the drag from economic stagnation on labor demand has yet to be fully absorbed.

German Chancellor Merz stated publicly that the unemployment figure crossing this key psychological threshold is a warning that cannot be ignored, and once again stressed the urgency of restoring growth momentum. The government plans to stimulate demand by expanding infrastructure and defense-related spending, but policymakers are also keenly aware that there is an unavoidable time lag between fiscal outlays and their impact on the real economy, meaning the labor market is unlikely to reverse its weakness quickly in the near term.

If one looks at data adjusted for seasonal factors, the picture appears relatively more moderate. Seasonally adjusted unemployment was broadly unchanged from the previous month, and the unemployment rate remained stable, suggesting that part of the early-year volatility has a clear seasonal component. Labor authorities noted that slower hiring activity at the start of the year and contract adjustments were key drivers of the headline rise in unemployment, providing markets with some room for a more tempered interpretation.

On the growth front, quarter-on-quarter GDP growth in the fourth quarter came in slightly above market expectations, indicating that the economy still retains a degree of resilience amid a turbulent global trade environment. However, the government has recently lowered its growth forecasts for the next two years, citing slower-than-expected transmission of structural reforms and fiscal stimulus. Economic and energy officials have also acknowledged that the pull from the traditional export model is weakening, underscoring Germanys need to cultivate new sources of growth.

From FXTRADINGs perspective, the coexistence of a mild inflation rebound and labor-market softness is likely to continue testing market assessments of Germany and the broader euro area in the coming months. On the one hand, price pressures limit the scope for further monetary easing; on the other hand, uncertainty around employment and growth constrains a sustained improvement in risk sentiment. This macro tension suggests that euro-denominated assets may be more susceptible in the short term to data surprises and shifts in policy expectations.