“If we don't say full access to the internal market is linked to full freedom of movement, then a movement will spread in Europe where everyone just does whatever they want,” the chancellor told business leaders from the BDI industry federation.
Merkel urged German firms to back Berlin's tough line on Brexit even in the face of potential economic harm, or risk undermining the European Union.
“We have to make our interests align so that European industry federations don't put pressure on us” during talks with London, Merkel told the annual BDI gathering.
Some British politicians are confident that industry groups on the continent, fearful of losing their access to the UK, will push for a deal retaining Britain's access to the EU single market while limiting migration across the Channel.
The chancellor acknowledged the trade-offs to be made would be “judged differently from one industrial sector to the next”, but insisted that protecting the EU's four freedoms – of goods, capital, people, and services – was good for industry.
Merkel's comments come just days after British Prime Minister Theresa May said she would trigger by March 2017 the two-year talks to quit the European Union.
May's Conservative party announced a slew of policies aimed at reducing migration to the island nation at its conference this week.
Britons voted on June 23 to quit the EU, after a campaign in which “Leave” voices said the only way to limit immigration was to abandon membership of the bloc.