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Finance
 
INTERNATIONAL : GERMANY: SLOWDOWN
The Hitman strikes Germany
Germany’s 18-month long growth run is finally grinding to a halt. A recession in The Eurozone’s biggest economy, if one ensues, would be devastating to most other European countries, particularly those that are in the midst of significant fiscal consolidation.
Issue Date - 13/10/2011
 
Only six months ago, the eurozone’s biggest economy seemed to be powering full-steam ahead. Not only was it being dubbed by some to be “the strong man of Europe” again, the world had also started considering it to be the saving grace of the flailing eurozone. Come H2 2011, and the so-called soothsayers are eating their own words. Reason: Germany’s 18-month long growth run is finally grinding to a halt.

While something of a pullback from the impressive 4.7% expansion in Q1 2011 was expected (thanks to the ongoing sovereign debt crisis in Europe), growth slowed more than anticipated. After rising 4.7% in the first quarter of 2011, the strongest y-o-y growth rate in the post-reunification era, real GDP growth in Germany has slowed down to 2.8% in Q2 2011. The situation is even worse when it comes to the sequential rate (quarter-over-quarter) of growth. On a sequential basis the German GDP expanded just 0.1% in Q2 2011, way down from the impressive 1.3% expansion recorded in the first three months of the year.

Worryingly, the purchasing managers’ survey for manufacturing in August (out on September 1, 2011) too came in worse than preliminary data expected, at 50.9 from 52 a month earlier and over 62 earlier in the year (read: February 2011). Even the Ifo index (which is based on a monthly survey of some 7,000 firms in Germany) of German business sentiment took a sharp leg lower in September 2011. The Munich-based thinktank’s business climate index fell further to 107.5 in September from 108.7 and 112.9 in August and July respectively, well below a consensus forecast in a Reuters poll of 42 economists for a 111.0 reading. In fact, it’s the lowest reading for the index since June 2010. The last time the index fell so sharply was in November 2008, just after the collapse of Lehman Brothers when the German economy was in its deepest post-war (World War II) recession. However, what is more alarming is that the expectations component of the index, which measures expected business conditions in the near future (the next six months, to be precise), has dropped to its lowest level since mid-2009 when the German economy was climbing out of a severe recession. So, does this mean that another recession is brewing in Germany?

 
Although economists project that real GDP growth in Germany will remain positive, they do acknowledge that the risk of another downturn in Germany is not insignificant. After all, recessions occur when imbalances that have built up in an economy are corrected. For instance, not only did the United States build too many houses during the past decade, but Americans paid too much for those residences. The subsequent bursting of the housing bubble caused a very painful recession. Agrees Jay H. Bryson, the New York based Global Economist at Wells Fargo Securities as he tells B&E, “In Germany, there appears to be few obvious imbalances at present, but the country is clearly not recession-proof.” However, at the same time he feels that any recession today in Germany likely would have foreign, rather than domestic, origins. In fact, some of the slowdown that has occurred in the German economy this year reflects factors that are external to Germany. For instance, growth in real exports of goods and services slowed to a year-over-year rate of 7.6% Q2, 2011 from 12.5% in Q1 2011. In fact, the slowdown in exports is expected to be the main drag on German economic growth going forward as around 60% of German exports today are destined for EU countries, which at present are grappling with their own fiscal problems.

The strong euro is an added concern for the world’s 2nd largest exporter (with $1.303 trillion worth of exports Germany was the world’s 2nd largest exporter in 2010, behind China). Despite the lingering eurozone sovereign debt crisis, the euro has gained around 9% against the dollar and 5% against the pound over the last one year as a result of interest rate differentials. This has impaired the pricing power of German exporters, in turn weakening the export price growth.

Further, while the gross value-added of Germany’s key industrial sectors (excluding construction) fell to 6.4% in Q2 2011 from 11% in Q1 2011 (in year-ago terms), manufacturing value-added was 9.4%, down from 14.1%. And if the trend continues, growth in German GDP is not expected to rebound anytime soon, not at least in the second half of 2011. The reason is simple. Industry accounts for more than 25% of GDP in Germany (compared with just 13% in France); and almost 33% of its workers are employed in industry.

No doubt, a recession in Germany would be bad news for Germans. However, it would surely be devastating to many other European nations, particularly the highly indebted countries that are undergoing significant fiscal consolidation. For instance, Germany is Italy’s largest export market as it takes in nearly 15% of Italy’s exports. With the value of Italy’s exports to Germany in the first four months of this year up about 20% relative to the same period in 2010, a renewed downturn in Germany probably would pull Italy under as well. Italy, where real GDP grew only 0.8% on a year-ago basis in Q2 2011, needs all the external stimulus it can muster as it faces a few years of belt tightening. A similar story is true for Spain, which also grew less than 1% in Q2 2011. And if this happens, the recession would no longer remain restricted to Germany, the world would come to an halt!

Manish K. Pandey           

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