German institute downgrades growth forecast as Iran war hits economy

Germany's economic recovery is faltering as the war in Iran drives up energy costs and disrupts supply chains, with the German Economic Institute (IW) expecting growth of just 0.4% this year.

The employer-aligned institute's forecast, seen by dpa, marks a sharp downgrade from its December projection of 0.9%, made before the conflict began, underscoring the vulnerability of Europe's largest economy after several weak years.

The Iran war has choked off Germany's fragile recovery, IW economist Michael Grömling said, adding that rising energy prices and supply disruptions were hitting a country that has little buffer left after three years of recession and stagnation.

The modest expansion is expected to be driven mainly by government consumption and increased defence spending, the institute said.

The conflict is exposing the global economy to hard-to-predict economic strains, with broad spillover effects across German industry. IW expects inflation to average around 3% in 2026 as a result of the energy price shock. Employment is expected to decline, fixed investment to fall and private consumption to stagnate, according to the analysis.

Germany's export sector is also under pressure. "German exports are shrinking for the fourth time in a row while global trade is growing," Grömling said. He added that the economy is increasingly decoupling from global markets - a sign of a significant loss in competitiveness.

The outlook remains highly uncertain and will depend largely on the duration of the conflict, he said.

Official data showed Germany’s economy grew modestly at the start of the year, with gross domestic product (GDP) rising by 0.3% quarter-on-quarter in the first three months, according to preliminary figures from the Federal Statistics Office.

For 2025 as a whole, the economy recorded marginal growth of 0.2% after contracting by 0.9% in 2023 and 0.5% in 2024.