Expanded from two earlier, answers

There are multiple reasons for the German's myopia regarding Enigma and the consistent success of Anglo-American code-breaking efforts during the war. Firstly, the Third Reich partitioned out its cryptography and intelligence units into each military branch and civilian agencies. This fostered a degree of interservice rivalry for scarce resources and the lack of any central agency prevented any collective sharing of information. These intelligence branches at various points almost stumbled upon the Allies' efforts when investigating German losses, but because of their relative isolation of German intelligence, these investigations could never see the whole picture. There was little capability to pool and disseminate information even within the military. U-boat captains were increasingly apprehensive about Enigma's security as the Battle of the Atlantic dragged on, but there was no way for their concerns to filter to the appropriate channels. Therefore, much of the German investigations into signals breeches were reactive in nature, such as examining upticks in U-boat losses, in which the fog of war could always provide an alternative explanation to the fact that Enigma had been compromised.

One extreme example of casting around for alternative explanations occurred in January 1943. Befehlshaber der Unterseeboote (U-boat Command-BdU) had ordered two U-boats to circle and await a supply submarine in Quadrant DF 50, but the supply submarine ran too slow, and the BdU ordered the submarines to a different quadrant. In the meantime, the Kriegsmarine's own cryptoanalysis division had decrypted an Admiralty signal that gave the position of two U-boats Quadrant DF 50. The Kriegsmarine launched a subsequent investigation and concluded that German signal traffic had not been compromised on the basis that the British had described the U-boats as returning, not circling, and that the British signal did not note the changed rendezvous point. The Kriegsmarine investigation concluded that the British communique was a coincidence and Enigma remained secure.

But interservice rivalries and deficient investigations are only one part of the puzzle for Germany's collective failure. One problem that hampered the Germans was the military culture of the Wehrmacht that fostered a mentality that was ultimately counterproductive. The German military establishment did not place much stock into intelligence work as a proper military occupation, and thus its staff were seldom the cream of the crop. The military also looked only to the military for recruits for cryptanalysis and ciphers. This was in stark contrast to Bletchley Park, which recruited experts from outside military circles like members of the national bridge team or porcelain specialists whose hobbies and occupations trained them to see unusual patterns. The military's elitist cliquishness frequently looked down upon non-military personnel and was one of the main rationales behind the wide-scale adaptation of Enigma. The device represented a mechanization of ciphering and therefore could be trusted to trained conscripts. This snobbery came to fore when discussing Enigma as a source of Allied successes, one common explanation was that the device itself was being used improperly by a poorly trained operator. As losses mounted in the Battle of the Atlantic, BdU often conducted surprise inspections of traffic facilities to uncover sloppy discipline and found little to none, thus contributing to the false sense of Enigma's security. Adding to German woes was the relatively insular German academic establishment which was loath to cooperate with the military given there was a long-standing prejudice against practical application of their research. The military men in charge of Germany's efforts also tended not to conceive of wider applications of intelligence analysis. The Germans' decentralized intelligence networks also was geared to find immediate tactical information; using cryptography for strategic information was something that never quite occurred to them. The Wehrmacht's decentralization fostered a degree of hyperspecializtion that hindered its ability to shift focus.

Another handicap that hobbled the Germans was their past successes had inculcated a sense of complacency. Early war German efforts at breaking Allied cyphers cemented an opinion that the Allies' cryptography was sloppy and not run by professionals. When estimating their opposites, they frequently felt that while the British and Americans relied far too much upon technology, and not upon human capital. For the Germans, cryptanalysis was fundamentally a human occupation. Therefore they assumed that any attempt to break Enigma would rely upon human calculations (geistige Arbeit) and the mechanization of Enigma would preclude a brute force attack using human beings. Several times during the war, the Germans instituted precautionary attacks upon the Enigma messages in exercises and concluded that the machine could not be broken using German methods. Such a preconceived notion proved fatal for investigations into Enigma security because it fostered the tendency of the Germans to look for reasons other than Enigma to be the culprit. Some of this resulted in simple scapegoating such as considering the Italians' allegedly poor security to be the cause or some treason committed by German PoWs. Other times, the Germans considered Allied superiority in radar and radio-direction finding to be the culprit. Allied successes in cryptanalysis counterintuitively played a great role here as the speed at which Bletchley Park could decipher German messages and disseminate this intelligence was far faster than what the German intelligence establishment considered plausible.

Prior to 1974, both German historians and veterans were quite dismissive of any notion that their cryptographic system had been broken and their measures were for naught. Two German reviews of the 1967 Polish book Bitwa o tajemnice (Battle for Secrets) by Wladyslaw Kozaczuk which revealed that Polish cryptographers had broken Enigma dismissed his claims and other veterans described the idea that the Poles could have cracked Enigma derided its claims as "wishful thinking." Heinz Bonatz, the former head of the Kriegsmarine's B-Dienst wrote in his 1970 history of German naval intelligence Die deutsche Marine Funkaufklärung asserted that Enigma was never broken and Allied silence on this success confirmed that German security measures were sufficient. Bonatz instead blamed Allied successes on a myriad of usual suspects ranging from Humint, superior radio-direction finding equipment, to sloppy Italian code security. In short, the mainstream German opinion prior to 1974 ascribed Allied successes to everything except Enigma. After the UK government's confirmation of The Ultra Secret there were still some veterans in denial, but most German commentators were in shock about the scale to which their security system had been compromised.

Although the various German intelligence agencies bear a great deal of blame for large-scale systematic failures surrounding Enigma, it is also important to underscore their mistaken conclusions had some logical validity at the time. Allied radar and other material superiority was increasingly apparent as the war went on and many Germans did spy on the Third Reich for foreign powers. The Germans did try to use a Hollerith punch-card computer in 1943 to aid their cryptanalysis. The initial focus upon immediate tactical information makes some degree of sense for the quick and sudden type of war Germans wanted to fight. Even a more centralized intelligence establishment would not have resolved all of the material shortcomings and personnel problems given that such an agency would have still had to compete with other components of the Third Reich's war machine for scarce resources. Rectifying these problems was so vast it made the willful ignorance of Enigma's failure an attractive proposition.

Sources

Alvarez, David J. Allied and Axis Signals Intelligence in World War II. London: F. Cass, 1999.

Ratcliff, R. A. Delusions of Intelligence: Enigma, Ultra and the End of Secure Ciphers. Cambridge: Cambridge University Press, 2006.