German GFK Consumer Confidence January 2008

German consumer confidence unexpectedly rebounded ever so slightly from what had been the lowest level in almost two years at the end of December as shoppers appear to have become slighly more willing to spend as the holiday season approaches. GfK AG's index for January, based on a survey of about 2,000 people, rose to 4.5 from a revised 4.4 in December, the Nuremberg-based market-research company said in a statement at the end of last week.This "snippet" of news lead to all sorts of speculation in the financial and business press, but I think we need to be very careful indeed here. There is such a thing as clutching at straws, and we all have a tendency to see what we want to see, to emphasise the good news, and play down the bad, to hold to what conforms to how we see the world and to discard the world. I do it, you do it, and of course the financial and business media do it bigtime.

So if you come to look at the chart below, what stands out is not the difference between December and January, but how similar they are with each other when compared with, say, October or September. Consumer confidence in Germany is plumming the lows, and at the moment it is staying there. Of course some sort of rebound is only to be expected after the beating which German domestic consumption has taken across 2007. Again let's look at the chart:





2007 has been a baaad year, and there's no mystery about why. VAT was raised by 3 percentage points on the 1st January, giving the German consumer a hefty hit where it hurts, in the pocket. So clearly, after things being so bad, they have to get just a little better (or at least so the theory would go, and here's hoping). All I would say is that on the Gfk reading it is way to soon to start declaring that this slight rebound has taken happened (don't hold out hope for a massive recovery, look at the longer term trend). And this situation is only confirmed when we come to look at the index sub components.




The indicator measuring households' willingness to spend rose to minus 10.7 from minus 21.8 in the previous month, indicating a slight improvement in the climate as we entered the xmas season, but there is little remarkable in that, indeed it would have been remarkable if things had not recovered slightly. On the other hand consumers income expectations fell to minus 1.7 from zero and shoppers also became less optimistic about the general economic outlook, with this indicator declining to 23.6 from 24.1.

According to Klaus Wuebbenhorst, chief executive officer at GfK, today's report is "good news, giving reason for optimism for 2008"...."Consumers are more willing to buy more expensive products, which is good news for Christmas sales." Well, as I say, there are opinions here to suit all tastes, so from here on in its up to you to make up your own mind what the reading actually means.

Germany IFO Index December 2007

Well, this is almost getting boring at this point, as a certain predictability and inevitability enters into all the data, and especially the sentiment indexes, which are down, down, and down again. Today it is the turn of IFO Institute's German business confidence index to fall to its lowest level in almost two years in December as rising credit costs, higher oil prices and the euro's appreciation threatened to curb growth in Europe's largest economy.





The Munich-based Ifo research institute's business climate index, which surveys 7,000 executives, declined to 103 from 104.2 in November.

"The risks to price stability over the medium term are clearly on the upside" Jeab Claude Trichet told the European Parliament's economic and monetary affairs committee in Brussels yesterday, and, he might have added, the risks on the economic performance and growth front are all pointing to the downside. But still, a mandate is a mandate I suppose. Now how did the poem go? Ah yes, half a point, half a point, half a point upward, into the valley of death rode the 600.

Is The German Economy Heading For Recession in 2008?

Well with most commentators now assuming a 40% minimum probability that we will get a US recession in 2008 (I personally really wouldn't want to quantify the risk here, and think, along with MacroMan that the US may even surprise us on the upside), and With Morgan Stanley's Takehiro Sato (closely accompanied by our very own Claus Vistesen) now calling some sort of recession for Japan in 2008 (and see this morning's Tankan, and in this case I would not only go along with the consensus, but even fear that the downside risks may exceed everyone's expectations) perhaps it is time to ask ourselves what the odds are for a recession in the Eurozone in 2008?

And what better vantage point to look at this from than that of the zone's largest economy, the German one.

ZEW Plummets

First off the sentiment indexes. These have been trawling negative territory for some time now (see the IFO here and the GFK consumer index here), and this week we learned that investor confidence in Germany reached its lowest level in almost 15 years, as rising credit costs dimmed the outlook for economic growth. The Mannheim-based ZEW Center for European Economic Research said its index of investor and analyst expectations fell to minus 37.2, the lowest since January 1993, from minus 32.5 last month.

InterBank Rates

The cost to banks of borrowing euros over a three month period rose to its highest level since December 2000 this week as banks are hoarding cash to cover their commitments over year-end. The euro interbank offered rate, the amount banks charge each other for these loans, rose 3 base points to 4.93 percent, according to the European Banking Federation. That's 93 base points more than the European Central Bank's benchmark rate. If we look at the latest available data from the British Banking Association we will see that the three month euro Libor rate turned up once again in mid November, and has not stopped rising since.



It is important to realise here that this movement in the 3 month libor that have been seeing since the start of August has taken place without any change in interest rates at the ECB. But these rates will affect all those borrowers who are on variable interest rates tied to Euribor (or Mibor) and, for example, nearly 80% of mortgage holders in Spain fall into this category, so a sharp monetary tightening is now taking place, even as general economic conditions deteriorate.

Growth in Germany is expected by virtually everybody to slow next year, although no-one really knows by how much, and downside risks abound. A drop to a 2008 overall rate of 1.7 percent was forecast by the RWI economics group last week, but even this may be on the optimistic side.



German Exports

Meanwhile German exports unexpectedly rose in October, pushing the trade surplus to a record.



Still, the euro's 11 percent advance against the dollar this year is making German exports less competitive abroad, adding to concerns that this continued export strength may not be sustainable. Exports were the driving force behind last year's 2.9 percent economic expansion, which was the fastest in six years. And if we come to look at the evolution of the year on year growth rates in exports (which is the key data point I would argue), we can see that the trend is now definitely down, and indeed that the export component in this present expansion probably peaked sometime in the last quarter of last year.


So what can we expect from this. Well it may be worth reminding ourselves about what happened last time round, ie last time the acceleration in the Y-o-Y growth rates in German exports effectively stalled. That was back in early 2000, as we can see from the chart below. And what happened at that time? Well the fed was easing as the US entered recession, and the euro was to some extent rising, both of which put a strong break on German exports. So it isn't the rise in the currency alone that matters, you have to think about the whole environment which produces it. Why your currency is rising, while someone else's is falling. And of course, in German export terms, after the rise comes the fall. This is the cost of not being able to depend on your own internal demand, you have to depend on someone else's demand.




As we can see once the rate of increase in annual exports entered real decline, GDP was not far behind, and off Germany went into recession. So this time round the same thing may well happen, and domestic demand may well not offset any fall-off in foreign sales as oil-driven inflation and rising borrowing costs steadily sap German consumer and corporate spending power. Last month, consumer prices rose 3.3 percent from a year ago, the most since records began in 1996. The price of oil has gained 44 percent this year. At the same time German wages, as is well known have had only very weak increases in recent years.




Looking into the situation a bit more deeply, we can see that the construction and housing sectors are in long term decline in terms of their importance in the German economy. If we leave out the very exceptional quarters associated with the pre VAT rise construction boom (Q4 2006 and Q1 2007), housing simply hasn't turned back up since the end of the boom in 1995. As I keep saying I think the strongest explanation for this is the demographic one, and it is this element that those who keep hoping against hope to get a turnround in German domestic demand simply are not seeing.




If we now move on to look at the co-movement in German GDP and some of its key components - movements in GDP growth compared with growth in exports and growth in housing - we can see that every time the rate of increase in exports slows (the green line in the chart below), GDP (the red one) follows it down. And at the moment, of course, the rate of export increase is slowing. If we then add to this what is happening in housing and construction, where we have a very rapid decline from the VAT-rise-provoked-boom (houses also went up 3% on 1 January 2007), and the deteriorating external environment, it isn't at all clear to me at this point that we won't see a German recession in 2008, in fact I would put the odds on a German recession slighly higher than the 40% probability most people are attaching to a recession in the US (let's say 50-50).



Now, as I keep indicating, the backdrop to the whole situation in Germany is the vulnerability of domestic consumption, and quite how fragile all this is has been brought home by the boom-bust type dynamic produced by last January's VAT hike, which I think can be clearly seen in the data from the last quarter of of 2006 onwards. There is a huge spike, and then there are 3 quarters of negative growth.



Of course, demographic ageing is not only about rising median age, it is also about continuous changes in the population structure, and in particular the proportion of the population in the key 25-49 age group rises to a peak and then starts to fall. Let's look at this chart for Germany:



As can be seen this crucial age group touched its highpoint in 1997/98, precisely around the time that the mid 1990s boom in construction came to an end.This could be imagined as the moment of maximum capacity for the German economy as a whole. In closing I would wish to point out that I am not trying to draw all this to people's attention in order to criticise, or in some way have a go at Germany. Au contraire. It is because I am concerned that I am going to all this trouble. The first step to getting to grips with and fixing a problem has to be recognising that it exists. That drop in fertility that happened deep in the past, may now seem like a long forgotten event, but its presence is forever with us. Something obviously needs to be done, and better late than never. Putting all your eggs in one basket is never the best of ideas.

The Great VAT Rise Scandal

I think the chart I have just presented showing the recent evolution of German private consumption really speaks for itself. I created it as I was going through the detailed data for German Q3 2007 GDP. So some of the things you were taught in Econ 101 do turn out to be more or less valid, despite what a whole battery of people who should have known better (from the FT to the Economist among many others) were telling you not so long ago. You can't raise prices without having some effect on underlying demand. And when you tell people you are going to raise them in advance, then you should expect them to stock up as best they can. So we get a big spike in private consumption at the end of 2006, and then 3 quarters of year on year negative consumption growth. I'm not sure after this experience people will be piling ageing society costs onto already fragile domestic consumption again. (NB, I do hope they are looking at this data in Japan, where, of course they are currently discussing the advisability of introducing a consumption tax to try to reduce the scale of the accumulated government debt they have - around 150% of GDP).

But the problem with this VAT rise isn't only the impact it is now having on German internal consumption, it is also making its effect felt in the legacy it is leaving policymakers to get to grips with. In particular we can, of course, notice the impact of the rise on Germany's short term inflation dynamics (with many observers suggesting it has contributed around 1.3% points to Germany's current inflation spike - to which we will now turn) and in this way the earlier VAT decision has considerably constrained the ECB's room for manouevre in the face of the sub-prime housing shock.


Inflation on the Rise

So, and just to make things really complicated for the ECB, German inflation accelerated in November to the fastest pace in 12 years, led by surging oil and food costs, and the knock-on VAT effect.



German consumer prices - as measured by the harmonized European Union index, rose 3.3 percent from a year earlier in November, following a 2.7 percent increase in October, according to this weeks data from the Federal Statistics Bureau. That's the fastest monthly rate to be recorded since harmonized data for Germany started being collated in January 1996. In the month of November prices rose by 0.5 percent.

While the wage response to the price pressure is likely to be moderate, the inflation squeeze following on the back of the VAT hike is likely to weaken an already weak domestic consumption even further, and in the absence of some strong monetary easing I think the result is not too hard to predict.




If we now take a look at the breakdown in Q3 German GDP growth in terms of the component contributions, it isn't hard to see that the heavy lifting was carried out by exports, and these were followed in importance by machinery and equipment investment (which to some extent is related to export needs). So if external conditions deteriorate, even slightly - which all the forecasts suggest they will for 2008 - then Germany will have increasing difficulty maintaining the pace of the export expansion. Remember, for Germany to fall into recession we don't need to see negative export growth, just a substantial reduction in the rate of increase.


Conclusions

To end up more or less where we started, below is the chart for the percentage point contributions of private domestic consumption to GDP growth in Germany in recent quarters. As can be seen, during the three last quarters (following the VAT anticipation spurt) consumption has acted as a drag on growth. With inflation now biting into consumers pockets, and monetary conditions effectively tightening, this position is more than likely going to deteriorate.



All of this has, as I am saying, put the ECB in something of a double-bind straightjacket. It is difficult for them to raise rates in the short term. In which case the Fed is likely to continue easing, and the relative yield offered by European rates will rise, and with them, in all possibility, the euro. So one of the factors in the mechanism has to be the different response rates of the two central banks involved. The Fed tends to respond more rapidly and more aggressively when iit sees problems coming. So it we look at the chart below for the movements in interest rates by the 2 insitutions since the second half of 2000 we can see that the fed started resacting last time tround a full six months before the ECB. as a result by mid 2001 Federal reserve rates were below ECB ones. So what happened then?

Well, if you look at the chart below you will see, the euro started to rise against the dollar (the yield differential factor). The rise really got going at the start of 2002 and lasted till the spring of 2005. And what was happening at this point, well the Federal Reserve rate was once more back above the ECB one, and the differential was rising, that's what happened. And what happened to German GDP during 2002, 2003, and 2004? GDP growth was at a very low, near recessionary level, that's what happened. Go back and look at the export growth GDP chart, the fit isn't perfect, but there is obviously a very strong relationship.


Now I am obviously not suggesting that what happened to German GDP after 2002 is an entirely relative interest rates story, the slump in world growth following the internet bust is also a very important part of the picture (as are the cosequences of the sub-prime generated credit crunch this time round), but interest rates and relative exchange rates do form part of the picture, and provide an interesting part of the narrative. So basically we have a cyclical sub-mechanism at work based on the ECBs ability to get things wrong (or work itself into a corner), where by the delayed reaction from the ECB leads the euro to rise to unrealistic levels, and this rise eventually pinches German export growth (German enterprises may be a lot better at reacting than the ECB, but their elasticity is not infinite, there is a limit). And when the limit is hit, then off goes Germany into recession, and usually these days this means something more than just two quarters of negative growth.

And why is Germany structurally condemned to depend on exports, well the principal reason is the rising median age. And what drives the rising median age? Well a number of factors are involved, but the most important of them is fertility. And so I present you with what is possibly the most preoccupying graph of all, the one thats shows the stubborn resistance of the German TFR to any upward movement.


Basically then I rest my case. The danger of recession in Germany as we enter 2008 is at greater than 50%.

Germany Economy, What Price the VAT Effect Now!

I don't think there is much to say about the chart below. I created it as I was going through the detailed data for Q3 2007 German GDP. Some of the things you were taught in Econ 101 do turn out to be more or less valid, despite what a whole battery of people who should have known better (from the FT to the Economist) were telling you not so long ago. You can't raise prices without some effect on demand. And when you tell people you are going to raise them in advance, then you should expect them to stock up as best they can. So we get a big spike at the end of 2006, and then 3 quarters of year on year negative consumption growth. I'm not sure after this experience people will be piling ageing society costs onto already fragile domestic consumption again. I do hope they are looking at this data in Japan.




Inflation on the Rise

And just to make things really complicated for the ECB German inflation accelerated in November to the fastest pace in 12 years, led by surging oil and food costs.



onsumer prices, measured using a harmonized European Union method, rose 3.3 percent from a year ago after increasing 2.7 percent in October, the Federal Statistics Office in Wiesbaden said today, confirming a preliminary estimate published Nov. 27. That's the fastest inflation measured since harmonized data for Germany started being collated in January 1996. In the month, prices rose 0.5 percent.

An 84 percent surge in oil prices since mid-January is driving up inflation even as the euro's ascent to a record against the dollar makes imports cheaper. While the European Central Bank on Dec. 6 left its key rate at 4 percent, President Jean-Claude Trichet threatened to raise borrowing costs if workers win bigger pay increases to compensate for higher costs. While the wage response to the price pressure is likely to be moderate, the inflation squeeze following on the back of the VAT hike is likely to weaken an already weak domestic consumption even further.





As we can see in the chart below - which gives a breakdown in Q3 GDP component contributions to growth, the heavy lifting was carried out by exports, and these were followed by machinery and equipment investment (which to some extent is related to export needs). So if external conditions deteriorate, even slightly - which all the forecasts suggest they will for 2008 - then Germany will have increasing difficulty maintaining the pace of the export expansion. Remember, for Germany to fall into recession we don't need to see negative export growth, just a substantial reduction in the rate of increase.




and just to end up where we started, here is a chart of the contributions of private domestic consumption to GDP growth in recent quarters. As can be seen, during the three last quarters (following the VAT anticipation spurt) consumption has acted as a drag on growth. With inflation now biting into consumers pockets, and monetary conditions effectively tightening, this position is more than likely going to deteriorate.

ZEW Investor Confidence Index December 2007

Investor confidence in Germany dropped more than economists forecast in December, reaching the lowest level in almost 15 years, as rising credit costs dimmed the outlook for economic growth. The Mannheim-based ZEW Center for European Economic Research said its index of investor and analyst expectations fell to minus 37.2, the lowest since January 1993, from minus 32.5 last month.



InterBank Rates

The cost of borrowing euros for three months rose to the highest since December 2000 today as banks seem to be hoarding cash to cover their commitments over year-end. The euro interbank offered rate, the amount banks charge each other for such loans, rose 3 base points to 4.93 percent, the European Banking Federation said today. That's 93 basis points more than the European Central Bank's benchmark rate. If we look at the latest available data from the British Banking Association we will see that the three month euro Libor rate turned up once again in mid November, and has not stopped rising since.



It is important to realise here that this movement in the 3 month libor that we see since the start of August has taken place without any change in interest rates at the ECB. But these rates will affect all those borrowers who are on variable interest rates tied to Euribor (or Mibor) and, for example these are nearly 80% of mortgage holders in Spain, so a sharp tightening is now taking place, even as general economic conditions deteriorate.

Growth in Germany is expected by virtually everybody to slow next year, although no-one really knows by how much, and downside risks abound. A drop to 1.7 percent next year was forecast by the RWI economics group last week, but even this may be on the optimistic side.



German Exports

Meanwhile German exports unexpectedly rose in October, pushing the trade surplus to a record.



Still, the euro's 11 percent advance against the dollar this year is making German exports less competitive abroad, adding to concerns. Exports were the driving force behind last year's 2.9 percent economic expansion, which was the fastest in six years. And if we come to look at the evolution of the year on year growth rates in exports (which is the key data point I would argue), we can see that the trend is now definitely down, and indeed that the export component in this present expansion probably peaked sometime in the last quarter of last year.


So what can we expect from this. Well it may be worth reminding ourselves about what happened last time round, ie last time the acceleration in the Y-o-Y growth rates in German exports effectively stalled. That was back in early 2000, as we can see from the chart below. And what happened at that time? Well the fed was easing as the US entered recession, and the euro was to some extent rising, both of which put a strong break on German exports. So it isn't the rise in the currency alone that matters, you have to think about the whole environment which produces it. Why your currency is rising, while someone else's is falling. And of course, in German export terms, after the rise comes the fall. This is the cost of not being able to depend on your own internal demand, you have to depend on someone else's demand.





As we can see once the rate of increase in annual exports entered real decline, GDP was not far behind, and off Germany went into recession. So this time round the same thing may well happen, and domestic demand may well not offset any fall-off in foreign sales as oil-driven inflation and rising borrowing costs steadily sap German consumer and corporate spending power. Last month, consumer prices rose 3.3 percent from a year ago, the most since records began in 1996. The price of oil has gained 44 percent this year. At the same time German wages, as is well known have had only very weak increases in recent years.

German GFK Consumer Confidence Index December 2007 Down

German consumer confidence fell to the its lowest level in almost two years according to GfK AG's index for December, which is based on a survey of about 2,000 people. The index fell to 4.3 from a revised 4.8 in November, the market- research company said in Nuremberg today. That's the lowest reading since January 2006.



According to GFK:

An upswing in the consumer climate is unlikely, even towards the end of the year. While income expectations rose, economic expectations and the propensity to buy fell. Following the revised 4.8 points in November, the consumer climate forecast for December is 4.3 points.

Well-known economic risk factors, such as the strong euro, turbulences on the international financial markets and high food and energy prices continue to impact on the generally good German economy. A "sense of impending inflation” is currently influencing German consumers and the positive factors which are currently evident, such as the sustained improvement on the job market and rising incomes seem unable to prevent the evaporation of optimism where propensity to buy and economic expectations are concerned. Conversely, income expectations have stabilized at a slightly higher rate in November.

In fact, the rise in income expectations is pretty marginal - from minus 0.7 to zero - and the sub indexes are in non too spectacular shape generally.



What we can say is that the income expectations are now pretty flat, that the expectation about the economic outlook has been steadily deteriorating since June, while the propensity to consume took a nose-dive after December 2006 (isn't that strange, just after the 3% VAT hike that everyone said wouldn't matter) and hasn't budged, except slightly downwards. What this seems to indicate is that German consumers are now preparing for a hard winter (a hard and more elderly one) and, like their Italian counterparts, are busy thinking about saving. Maybe this helps put yesterday's IFO reading in a bit more perspective. I think the IFO was more about current conditions (and how they have mildly surprised on the upside) than about anticipated future ones.

German IFO Business Confidence November 2007

Well this certainly is a moment with possible interpretations to suit all tastes. The German IFO just came in with a monthly upward rebound. True the bounce was marginal, up to 140.2 from last months 139.9, but still, up is up. So what do you make of that? Well, if we actually look at the chart we can see the numbers are in fact still well down on the autumn 2006 and spring 2007 readings, which more or less fits in with the general picture we are getting.



Interestingly if we turn to an examination of the sub-components in the index we find that the assessment of current conditions rose to 110.4 from 109.6 in October, while the indicator of expectations slipped to 98.3 from 98.6. German manufacturing is undoubtedly getting a good push from the favourable climate for exports (despite the rapidly rising euro), and especially in Eastern Europe where many of the currencies are directly or indirectly pegged to the euro. This impression is confirmed if we look at the readings for trade and industry, which rose from 7 to 7.6, and for manufacturing, which rose from 17.8 to 19.3 and compare these with construction, which fell to minus 21.3 from minus 20.6 and retail, which fell from minus 6.8 to minus 9.2.

As Claus Vistesen said in his revue of Q3 Eurozone GDP performance:

On the face of it the Q3 GDP release from the Eurozone seems to point to a rebound but we should not be fooled. I know that I tend to be a bit of a party pooper sometimes when it comes to the Eurozone but this time around you need to consider I think that the collective mass of almost all respectable analysts and economic commentators seem to agree with my general forecast. As such, all of us Eurozone watchers had pretty much agreed that Q3 all things equal would show a rebound relative to Q2 but given the monthly real economic data and confidence readings which have been rolling in it would also prove to be short-lived.

I think this is it. Steady as she goes, but the nose of the ship is now pointing downwards.

Germany's ZEW Business Sentiment Index November 2007

Well perhaps this news is hardly surprising, but German investor confidence - as measured by the ZEW Center for European Economic Research in Mannheim - dropped to its lowest level in almost 15 years this week.




The Economic Sentiment index - which attempts to measure investor and analyst expectations - fell to minus 32.5, the lowest reading registered since February 1993. This was down from a 'mere' minus 18.1 in October. Looking at the chart, of course, it is plain that we have almost been here before, in November last year, but an unexpected upswing in the demand for German exports globally (and especially in the East of Europe) and a weaker than expected negative reaction from German consumers to the 3% VAT increase introduced in January, meant that the bleakest expectations of that moment were not realized. However now the 3% extra cost of purchasing is still with us, and the export upswing is much weaker than it was, and in addition the financial turmoil of last August is having a much stronger than expected impact on construction activity in Germany.

As a result growth in Europe's biggest economy is undoubtedly slowing, and quite fast, and, naturally, this is the conclusion that the ZEW institute itself draws. Among other factors mentioned is that the euro has risen 8 percent against the dollar in the past three months alone, and reached a record high of $1.4752 only last week, eroding on it way up the competitiveness of German exports, whilst at the same time making products from the US companies which compete with Germany in third country markets cheaper. At the same time, higher energy bills and tighter lending conditions have sapped companies' and consumers' spending power.

One other key data point which serves to back up the ZEW finding is the fact that growth in Germany's key manufacturing sector is now slowing notably. Morgan Stanley's Eric Chaney, in noting the decline which was also registered in the IFO index last month, took the opportunity to draw attention to the rather dramatic way in which German manufacturing seems to be slowing.

The devil is often in the details, as the saying goes. This might be true for the euro area economy: while the widely scrutinized headline Ifo index posted only a modest slip in October, one key detail of its manufacturing section sent a much gloomier message: production fell from a cliff in Germany, the powerhouse of the recovery so far.

More evidence for this situation was to be found in the RBS/NTC Eurozone Manufacturing PMI (Purchasing Managers' Index), which came in at 51.5 in October, in line with the preliminary “flash” reading. While the reading indicates (as does any over 50) that output is still expanding, the fall from 53.2 in September was the largest decline to be registered in almost three years and the reading showed the weakest monthly expansion since August 2005. This weakening in the PMI was led by Germany, where the index showed the largest points fall in the eleven-year history of the survey. The PMIs also fell in Spain and Italy, while the reading was unchanged on a month earlier in France.

This easing-up in the rate of growth is the steepest recorded since November 2004, largely reflecting the sharpest slowdown in production growth seen in Germany for five years. Although Germany still continued to record the fastest growth of output in the eurozone big-four, the rate of increase was the weakest for over two years. Output growth also slowed to the weakest for at least two years in all the other big-four countries, slowing to near stagnation in both France and Spain, with France recording the weakest rate of expansion of the big-four.

Output rose for investment, intermediate and consumer goods, with the former continuing to show the strongest rate of increase. However, investment goods production slowed to the weakest since November 2005, reflecting a particularly sharp easing in Germany.

Growth of new orders was only very modest and was the lowest for two-and-a-half years. New orders in fact fell in Germany for the first time since August 2005, dropping at the fastest rate since November 2004. A marginal decline was also recorded in Spain (the first drop since June 2005). New orders rose in both Italy and France, but in both cases the increases were only very modest.

New export orders rose only modestly, showing the weakest increase during the current 29-month period of expansion. Sharply slower growth in Germany and Italy brought their export growth into line with the modest pace seen in France. Meanwhile, new export orders fell (though only very marginally) for the second month running in Spain.

Backlogs of work fell for the first time since June 2005, dropping in Germany, Spain and Italy. Stocks of finished goods meanwhile rose slightly for the first time since March 2005, caused by sluggish sales. Rising stocks and falling backlogs, of course, point to weak future production, and this is really the overall meassage which we are getting from the data at this point.

German Industrial Output September 2007

German industrial output continued increased in September, although the pace of increase is definitely slowing.

Production rose a seasonally adjusted 0.3 percent from August, when it advanced 1.9 percent, according to data released by the Economy and Technology Ministry in Berlin yesterday. From a year earlier, output rose 6 percent when adjusted for the number of working days.

Growth in emerging markets such as Russia and Eastern Europe is helping offset the impact of the euro's appreciation on exports, encouraging companies to expand. Still, record oil prices may curb economic growth as they erode spending power among Germany's customers, and stagnant internal demand may also take a toll. In one indication of this new factory orders dropped 2.5 percent in September from August, according to the Economy Ministry in an earlier release.

German Employment and Unemployment September 2007

According to provisional results of the Federal Statistical Office, the number of persons in employment in Germany and whose place of residence was Germany was approximately 40.05 million in September 2007, that was 676,000 persons more (+1.7%) than in September 2006. The number of persons in employment hence continued to increase strongly thanks to a good short-term economic trend and a positive development on the apprenticeship market.

Compared with the previous month of August 2007, the number of persons in employment was up by 341,000 (+0.9%) in September 2007. Seasonally adjusted, that is upon elimination of the typical seasonal fluctuations, employment rose by 36,000 persons in September 2007 on the previous month.

The employment/population ratio, that is the share of persons in employment in the total population aged 15 to 64 years, was 70.7% and thus continued to be above the European employment target agreed to be achieved in line with the so-called Lisbon Strategy by 2010.

In addition to calculating the number of persons in employment for reference month September 2007, the monthly and quarterly employment data published so far were recalculated back to February 2007 as part of the regular revision of national accounts, taking account of all sources of employment statistics now available. Altogether, the recalculation required changing the previously published monthly employment figures by a maximum of 0.1%.

Apart from the usual employment reporting, the Federal Statistical Office is now providing again an extended range of monthly unemployment data according to the internationally comparable ILO concept. The new time series is based on additional monthly processings of data from the Europe-wide harmonised labour force survey. This is the first time that monthly unemployment data are available for Germanyfrom that statistics which is carried out in a harmonised form at the EU level. For further information please refer to the methodical explanations at the end of this press release.

According to the results obtained by the method described there, a seasonally adjusted 3.51 million persons were unemployed in September 2007. That was a decrease by 600,000 (–14.7%) from September 2006. Accordingly, the seasonally adjusted unemployment rate harmonised according to the EU definition – measured as the share of unemployed in the total labour force – was 8.1%, which was considerably lower than a year earlier (9.6%).

German Retail Sales September 2007

According to provisional data from the Federal Statistical Office, turnover in retail trade in Germany in September 2007 was down in nominal terms 1.2% and in real terms 2.2% when compared with September 2006. And this included one extra day, since the number of days shops were open for sale was 25 in September 2007 and 26 in September 2006.

When adjusted for calendar and seasonal variations, the September turnover was in nominal terms 2.6% and in real terms 2.3% larger than that of August.

Compared with the corresponding period of the previous year, retail during the first nine months of 2007 was down 0.9% in nominal terms and 1.6% in real terms than during the first nine months of 2006.

Germany Factory Orders August 2007, Construction PMI

Well despite the fact that someone claims they have not enough data to make a judgement, evidence continues to mount of a slowdown in the eurozone and particularly in the key German economy. So, for those of you with a strong stomach, here is a bit more. First off, new factory orders in Germany, where manufacturing orders rose less than many economists had forecast in August after the euro's gains seem to be making exports less competitive while domestic spending follows its now traditional flat pattern..

Orders, adjusted for seasonal swings and inflation, rose 1.2 percent from July, when they dropped 6.1 percent, the Economy and Technology Ministry announced at the end of last week, based on data from the Bundesbank. The July decline, which was revised up from a 7.1 percent drop, was still the largest since at least September 1991. Particularly striking was the 10% drop in foreign orders noted in July over June.



As can be seen the level of orders has fallen back considerably from the, admittedly, very high level achieved in June.

If we now look at the construction PMI we can see a similar picture:



As can be seen, given that 50 is the dividing line between contraction and expansion, construction has been in contraction since February.

If we now take a quick glance at the manufacturing PMI:



We will see that while the German manufacturing sector is still expanding, the rate of expansion has been slowing steadily since the spring. I would say all the pointers are now there to show that a rapid slowdown is taking place in the German economy.

German Retail Sales Continue To Fall

The data for August retail sales for Germany were released by the Federal Statistics Office at the end of last week:

WIESBADEN – According to provisional results of the Federal Statistical Office, turnover in retail trade in Germanyin August 2007 was in nominal terms 1.2% and in real terms 2.2% smaller than that of the corresponding month of the previous year. The number of days open for sale was 27 in August 2007 and 27 in August 2006, too.

When adjusted for calendar and seasonal variations (CENSUS-X-12-ARIMA), the August turnover was in nominal terms 1.1% and in real terms 1.4% smaller than that of the preceding month.

Compared with the corresponding period of the previous year, retail turnover was in the first eight months 2007 in nominal terms 0.9% and in real terms 1.6% smaller than that in the first eight months of 2006.

Here's a chart of the monthly index since January 2006:



And here are the monthly year on year changes.



Incidentally, I really don't see how anyone could have been so silly as to argue that a 3% increase in the VAT consumption tax would have no impact on domestic demand, the effect is evident even to the naked eye, isn't it?

German Business And Consumer Confidence Tumbles

Well following hot on the heel of my German export driven economy post yesterday, events didn't take too long in bringing themselves home to roost.

Firstly we have the IFO Business Climate Index:





The index for the Munich-based Ifo institute which is normally though to act as an early indicator of likely trends in German economic activity, fell for the fourth consecutive month from 105.8 in August to 104.2 for September. Expectations for the next six months were the gloomiest for almost two years, as the component measuring confidence in the economic outlook six months from now fell to 98.7, which was the lowest level recorded since November 2005, and down from 100.4 in August. Indeed this months general business climate reading was itself a 19-month low, and reflected growing concerns among German industrialists that the strength of the euro and the increasing cost of credit will sap economic growth. The IFO results are entirely in harmony with the Bank of Scotland PMI readings we saw earlier in the week.

German consumer confidence also fell - in this case to the lowest level in five months - according to the GfK AG's confidence index for October. The index fell to 6.8 from 7.4 in September, the market-research company said in Nuremberg today.



The general concern is the same as that being expressed in the IFO index, the fear that Germany's economy may lose momentum as a U.S. housing slump pushes up borrowing costs and at the same time the euro's appreciation to a record against the dollar weighs on exports.

The individual components of the index also make interesting reading:





The component measuring consumers' confidence in the economic outlook fell to 40.7 from 48.4, while the income expectations component dropped to 2.3 from 9.2 and the indicator of households' willingness to spend slipped to minus 2.4 from 6.4. These are quite substantial drops, and reflect a growing pessimism about the outlook for the coming winter.

In this climate it is hard to appreciate why people imagine that the dollar can quietly pulmb the bottoms while the euro scratches the ceiling. A correction is undoubtedly coming here, since the current narrative makes no sense at all. The first indication of the change, well haven't you noticed, M Jean-Claude Trichet has gone very quiet all of a sudden. Somehow I don't think he relishes courting the limelight too much right now.

The German Economy, Employment, Export Shares and Age Structure

Ok, well yesterday I gave a brief resumé and outline of the state of the German labour market, about why the recent drop in unemployment isn't everything it seems to be, about why German wages have deflated, rather than inflated, during the current economic expansion, etc etc. That post is a prerequisite for what now follows which will be an attempt to describe how the German economy actually works.

First off, and as is well known, German society is ageing, and the German population is declining. Here is a chart - thanks to Claus Vistesen who has been doing this part of the work (and see also this very important recent post from Claus on DM) - of the German population evolution:



As can be seen, after the late 1990s the rate of population growth in Germany began to decline rapidly, and then more recently the population actually started to decline.

This changing population pattern has also been accompanied, as is again well known, by an important ageing of the population. This can be seen clearly from a chart - again from Claus - for German median ages:



Now this rapid recent rise in the median age of the German population makes Germany a much older society than many other OECD countries. In particular the United States is much younger (as are the UK, France, Ireland, Iceland etc) as can be seen from a comparable chart for US median ages (again thanks to Claus).



As can be seen the US is an incredibly young society, having attained median ages during the 1970s and 1980s more typical of a developing than a developed society, and even today the US is only where - in median age terms - Germany was some 30 or so years ago. So when we talk about "ageing societies" we should remember that while all our societies are ageing, some of them (Japan, Italy, Germany) are doing so much more rapidly than others. This difference in fact has profound implications, ones which were never foreseen, and given what we now know it should not be surprising to see these age structure differences expressed - as we will see below - in very different core characteristics in each of the societies concerned.

Now, not only is Germany's median age rising, the proportion of the population in the key 25-49 age group is now falling. Let's look at the chart:



As can be seen from the chart this crucial age group touched its highpoint in 1997/98. This could be imagined as the moment of maximum capacity for the German economy. This is the case for two reasons. Firstly the 24 to 49 age group includes the crucial 25 to 49 household-former, first-time-homebuyer group. In terms of credit expansion, it is this group which drives a significant part of internal demand, since this is the group with the greatest propensity to borrow forward, and this is vital.

The 25 to 49 age group also includes another important group, the 35 to 50 one. It is this group which drives an economy in productive terms, since these are the prime age workers. So if you think of a society as a 100 metres sprint athlete, then there is an age when this athlete is at the maximum of his or her running potential, an age after which each time they can only run the 100 metres more slowly. Well a society is the same in terms of its collective economic potential, after the 25 to 49 age group peaks an economy can only move forward more slowly, and logically, since without addressing either fertility or immigration, every time more and more slowly, as this group declines inexorably as a % of the total population.

Is there any evidence for this kind of assertion. Well, yes, as it happens, there is actually.

Lets have a look at German GDP. First off a long term chart.



As we can see, and as is well known, German GDP growth has been very weak since the turn of the century. As is also well known 2006 was a very good year for the German economy, which is what lead all the commentators to cry - at last! There is a German recovery. But have they been too quick in drawing this conclusion? There are good reasons to think that they may well have been (and of course, in reality we are all about to find out as we go through the coming winter). Let's have a look at the evolution of the composition of German GDP over the years.




Now, there is a lot to be seen in this chart for the careful observer. The first thing that strikes the eye is the way private consumption has hovered pretty close to the 60% mark for many years now, while government consumption - after moving sharply upwards as a total share in the first half of the 1970s has subsequently remained pretty constant, moving around the 19% of GDP mark. The big difference has been in the importance of fixed capital formation (GFCF) which reached a local peak around the 22 - 24% of GDP mark - guess when - just when the 25 to 49 age group was reaching its historic peak, in the years 1992 to 1995. So why should this be significant, well quite simply since fixed capital formation includes the HOUSING share, and it is this component which has steadily declined as a share of German GDP since the mid 1990s, and which is why there is a "hole" in German (and Japanese, which is the same story, only told a little earlier) GDP, a hole which can only be compensated for by exports. It is now interesting to ask whether in Spain, where the age group in question has just peaked, and the property market may be in the process of a historic bust, we may not soon see the same process at work.

So what we could propose is the idea that the years between, say, 1974 and 2000 (when GFCF fluctuated around a more or less constant share of GDP) constitute - to use the language of neo-classical economics - the constant growth period of the German domestic economy. The years prior to 1975 were the convergence, or "catch-up" years - especially those of the 1960s, after Germany finally broke out of the destruction and devastation of WWII - while the years after 2000 constitute what the neo-classicists would call the "balanced growth period", although as we can see, growth isn't very balanced, and there certainly isn't a steady state. This is because the ageing population components in German growth are now coming to dominate over the shifting age structure components of the constant growth period, and we are seeing an effect which is very similar to what is known as the "demographic dividend", only it is acting in reverse, which is why I call it the demographic penalty. Basically the majority of economists want to argue that what I have just said isn't the case, but I would simply suggest they look at the data, as I have been looking at it, and explain why it isn't the case, since the facts and the correlates seem pretty clear to me, once you "parenthesise" (or put in brackets) traditional steady state growth expectations and take a fresh look at the data. Simply saying that what is happening, isn't (the denial stage) since that won't change things, and it would seem to me to be more sensible to accept reality and to devise policies which try to address the real issues.

If we now move on to look at exports we also find something interesting. While fixed capital formation declined as a share of GDP from 24% in 1991 to 17.76% of GDP in 2006 (ie a 6% drop), the German trade balance moved from a DEFICIT (yes, you heard right, deficit) in 1991 of 0.4% to a surplus of 5.44% of GDP in 2006, ie a rise of 6 percentage points. The comovement in the two shares match each other in virtually symmetrical fashion. Incredible, and facsinating, isn't it? Here is the time series chart for the two components.




As I say, the correlation of these two since the mid 1990s is really quite striking.

Right two last charts just to finish up. Firstly annual private consumption growth in Germany (in percentage change terms):




As can be seen, this has been - barring the boom years of the mid 1990s - steadily declining in its ability to drive German growth, and it would be rather foolish to expect this to suddenly change now.

Lastly export growth and GDP growth:



As can be seen, since the mid ninetees, every time the German export performance flags GDP tanks. Claus and I haven't gotten round to doing the correlation coefficients yet (but we will do). But the relationship is pretty clear, so if the markets in the US and Eastern Europe slow noticeably this winter, just you watch what happens to German GDP.

So, as they say:

Quod Erat Demonstrandum

Or, if you prefer, "game, set, and bloody match". Anyone got some glasses handy, it's time to cork out the champagne I think. Or no, since this is Catalonia, a nice glass of Cava will do me fine. Have a nice day everyone. I will.