German Economy Watch: German Exports and German Growth Resilience in January and February 2008

Sunday, March 16, 2008

German Exports and German Growth Resilience in January and February 2008

Evidence is now mounting that the German economy has managed to find some sort of second wind, and at this point in time continues to endure the global downturn rather better than might have initially been expected. Perhaps the first clear indication that the downward progress of the German economy had been arrested and that the economy had to some extent stabilised came with the February reading on the EU Business Sentiment Index, which although remaining at rather lower levels than those registered during most of 2006 and 2007 was - at 103.7 - nonetheless up slightly on the January reading of 103.1. That is to say there was some evidence that the rot had been stopped, at least for the time being.

This confidence reading has been followed by at worst a flattening out and at best a slight uptick in a whole slew of German indicators like the IFO and Zew indexes, the GFK consumer confidence index, the February manufacturing and services purchasing managers indexes, and the performance in retail sales. All these point more or less in the same direction. So what is causing this rather unexpected resurgence in life?

Exports Lead the Way

Well since the German economy is basically export and not domestic-consumption lead, perhaps our instincts should tell us that export performance would be the best place to look to try and get a handle on what has been happening, and it seems that if we follow our instincts and do just this, then we will find that at least on this occassion our intuitions have not failed us, since according to the lates provisional data from the Federal Statistical Office, a decisive improvement can be noted in January's export performance over the December 2007 one, and indeed January marks the first month of improvement after several months of weakening on the export front.

In fact in January 2008 Germany exported goods to the value of EUR 84.4 billion while imported goods to a value of EUR 67.3 billion (thus having a trade surplus of EUR 17.1 billion). What this means is that German exports were up 9% year on year (and imports up 10.2%) when compared with January 2007. When allowing for calendar and seasonal factors, German exports increased by 3.8% and imports by 4.2% over December 2007.

As we can see fromn the above chart, German exports staged a definite recovery in January, and this recovery is thoroughly consistent with data readings we have been getting on other (previously mentioned) fronts, like the IFO and ZEW indexes, and the manufacturing and services PMIs. Curiously this situation is also consistent with results we have been seeing for exports in Japan (and for more comparisons between what is happening in Germany and what is happening in Japan see my Q4 2007 GDP revisions post, and Claus Vistesen's Is Japan Resisting one).

It is important to stress that this development does not by any means constitute a 100% U turn for the German economy, but it does mean that a pretty effective short term brake has been applied to the downward movement in economic activity, and it now remains to be seen how this deceleration/acceleration struggle pans out over the next two to three months. The broad brushstroke conclusion we might draw is that this rebound is unlikely to be a permanent one, but for the time being it is cushioning the German economy to some considerable extent.

A large share of German growth is driven by exports, and in particular by the foreign trade balance which showed a surplus of EUR 17.1 billion in January 2008 up from the EUR 16.4 billion achieved in January 2007.

It is also important to be aware that to get GDP growth Germany needs not only to maintain the balance, but increase it and to keep increasing it, since the correlate between GDP growth and export growth is a pretty strong one. But it is just in Germany (and Japan's) anility to keep increasing the size of the surplus as we move forward that their whole growth dynamic may falter.

In January 2008 Germany exported EUR 54.3 billion of goods to EU Member States, while it received EUR 43.1 billion worth of imports from EU countries. Compared with January 2007, dispatches to and arrivals from the EU countries increased by 7.7% and 11.2%, respectively. Goods to the value of EUR 36.2 billion (+6.3%) went to euro area countries in January 2008, while imports from those countries were EUR 29.9 billion (+10.0%).

Goods to the value of EUR 18.1 billion (+10.5%) went to EU countries not belonging to the euro area in January 2008, while goods arriving from those countries had a value of EUR 13.2 billion (+13.9%).

Germany exported goods to the value of EUR 30.0 billion to and imported goods to the value of EUR 24.2 billion from countries outside the European Union (third countries) in January 2008. Compared with January 2007, exports to third countries were up by 11.5% and imports from those countries by 8.5%.

Exports 2007

In 2007 Germany imported goods to a value of 772,511 million euros as compared with 733,994 million euros in 2006, an increase of 5.2%. In 2007 Germany exported goods to a value of 969,049 million euros as compared with 893,042 million euros in 2006, an increase of 8.5%. In 2007 the goods trade surplus was 196,538 million euros as compared with 159,048 million euros in 2006. This means there was an increase of 23.6% in the trade surplus between 2006 and 2007, and it is the trade surplus that to a large extent drives German GDP growth.

It's Where The Exports Are Going That Matters, Silly!

In 2007 about three quarters of German exports went to European countries, and 65% wentto the member states of the European Union. The second sales market after Europe was Asia with a share of about 11%, followed closely followed by America, with a share of approximately 10%. So Europe is the key to German growth, this is both evident and a very clear indication of why German exports have been so resilient to the rising value of the euro. To put things in perspective in 2007, and despite all the talk about the "China factor" Germany in fact exported effectively the same quantity of products to the Czech Republic ( 26,026.6 million euro) - population circa 10 million, as it did to China (29,922.7) - population circa 1.3 billion. meantime the quantity of products exported to the United States actually fell between 2006 and 2007.

Below you will find lists of German exports by countries for 2006 and 2007 for the leading destinations. A quick look through the two lists is revealing. Of particular interest are, for example, the fact that the numbers for China only increased by 8.7% on the year (up from 27,520.6 million euro in 2006 to 29,922.7 million euro in 2007, a difference of 2,402.1million euro) while exports to the Czech Republic (up from 22,255.3 million euro in 2006 to 26,026.6 million euro in 2007 or an incease of 3,771.3 million Euro) were rising at almost double the Chinese rate (up by 16.9%). The importance of United States as an export destination, on the other hand, declined, since exports there were down from 78,011.4 million euro in 2006 to 73,356.0 million euro in 2007, a decrease of 4,655.4 million Euro or 6%. Poland, which is another important destination for German exports was up from 28,820,4 million euro in 2006 to 36,083.2 million euro in 2007. An increase of 7,262.8 million Euro or 25.2%. Spain was also up considerably (as was Italy), rising from 42,159.2 million euro in 2006 to 48,157.7 million euro in 2007, that is an increase of 5,998.5 million Euro or 14.2%. The Russian Fderation is up from 23,371.8 million euro in 2006 to 28,185.2 million euro in 2007, that is an increase of 4,813.4 million Euro or 20.6%.

Now the list I have just gone through is scarecly a randomly chosen one. The decline in importance of the United States as an export destination for both Germany and Japan - which are the world'd No 3 and No2 economies respectively, and are both export driven - surely has some implications for the whole decoupling-recoupling debate. Also, the dependence of the German economy for exports growth on Poland, Czech Republic, Russia, Italy and Spain - all of which may have economic issues in 2008 of greater or lesser importance - is surely more than a minor detail, and the evolution of the east european and latin economies needs to be closely monitored for what they can tell us about the future path of the German one.

Whole Year 2007 German Exports by Country in Million Euro

France 93,860.6
United States 73,356.0
United Kingdom 70,998.8
Italy 65,148.0
Netherlands 62,373.5
Austria 52,762.5
Belgium 51,407.0
Spain 48,157.7
Switzerland 36,355.3
Poland 36,083.2
China, People's Republic of 29,922.7
Russian Federation 28,185.2
Czech Republik 26,026.6
Sweden 21,677.6
Hungary 17,304.9
Denmark 15,358.2
Turkey 15,082.7
Japan 13,075.2
Finland 10,291.4
Korea, Republic of 8,733.0
Slovakia 8,550.3

Whole Year 2006 German Exports by Country in Million Euro

France 86,093.0
United States 78,011.4
United Kingdom 65,340.5
Italy 59,971.4
Netherlands 55,876.5
Belgium 49,249.2
Austria 48,921.1
Spain 42,159.2
Switzerland 34,725.7
Poland 28,820.4
China, People's Republic of 27,520.6
Russian Federation 23,371.8
Czech Republik 22,255.3
Sweden 18,881.2
Hungary 15,870.8
Turkey 14,389.9
Denmark 14,020.4
Japan 13,860.9
Finland 9,299.6
Korea, Republic of 8,476.2
Slovakia 7,621.3
Portugal 7,460.5

In Conclusion

So what I want to say in this post is that it is now quite evident that some slight easing in the downward path of the German growth process is now taking place, the recent data are simply too consistent on this front to be ignored. As I mentioned at the start, the IFO reading was not as weak as might have been expected, the GFK consumer confidence reading remained stationary, unemployment continued to fall on a seasonally adjusted basis, while the January retail sales data and February retail PMI readings indicate an underlying expansion in German retail sales for the first time in several months.

Of course how long this process will last, and how important the turnround will prove to be, is very hard to say at this point. Looking at the general economic environment I wouldn't be betting on any kind of very strong upswing, but the numbers are interesting, and I wouldn't be surprised at all to see the recovery in the January export situation being carried over into February. An Eastern Europe effect perhaps? Certainly several economies are still accelerating there, almost to overheating, and the strong growth rates in German exports to Poland, the Czech Republic and Russia are unmistakable signs of something.

It is also significant that we can see some slight consumption effect in provisional results released by the Federal Statistical Office for turnover in the German retail trade in January, with sales up by 2.7% in nominal terms and 0.6% in real terms over January 2007. When adjusted for calendar and seasonal variations the January turnover was in 1.9% higher in nominal terms and 1.6% in real terms over December.

Now this is not an earth-shattering change, but it is significant. If we add to these results the latest reading on the Bloomberg retail sales purchasing managers index, which rose to 52.1 in Feb from 44.2 in Jan (according to data released yesterday by NTC economics), then obviously we be reasonably confident that the sales climate has improved somewhat. In fact February was the first month in almost a year when German retailers anticipated that their future sales performance would exceed their initial plans. The last time the retail PMI registered a monthly sales expansion was back in September 2007.

As I say at the start of this post, it is very hard to decide how to read all of this, but I imagine everything will become clearer as the days pass. One thing we should not be expecting though is any large and significant expansion in private domestic consumption to prop the economy up when exports do finally falter. Overall final domestic consumption expenditure now constitutes an almost permanent impediment to German economic growth. In particular we might note how final consumption expenditure by private households fell markedly (–0.8%) in Q4 2007 and to this weak private consumption was added a reduction in government final consumption expenditure, which had been increasing slightly during the first three quarters, but which also was down 0.5% in the fourth quarter when compared with the third.

As can be seen in the chart above, German private consumption has not proved able at this point to recover from the pre VAT increase surge in Q4 2006. Will the decison to raise taxes to try to "painlessly" address ageing population related fiscal problems finally turn out to have been one of the worst errors of economic judgement in recent European policy making? It certainly look this way, but at the end of the day only time will tell.

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Germany At A Glance, January 2008

Welcome to the German Economy Watch Blog. Below you will find the normal chronological blog posts. But first we would like to present some charts which provide background data and which we hope will help the first time reader better assess and get to grips with the argument being presented here. The big question which arose concerning the Germany economy in 2007 was whether or not the new found dynamism in German economic activity constituted some form of remaissance, and formed part of a global decoupling process whereby a sustainable recovery in domestic demand was taking place. Analysts on this blog never really accepted this view. The key question and central enigma associated with the German economy is really why domestic demand should have remained so congenitally weak over such a considerable period of time. Since this phenomenon is also to be observed in the the two other societes with very high (circa 43) population median ages - Italy and Japan - we postulate that demographics and population ageing processes offer some part of the explanation here. Basically what we can observe as societies move above the 40 median age mark are a number of stylised facts. Weakness in domestic private consumption would be one of these, absence of consumer credit driven property booms would be another, growing pressure on the national debt as the elderly dependence ratio steadily rises would be another, and growing dependence on export growth for sustaining GDP growth would be the central feature of the whole edifice. We hope you will find the background data presented here useful in assessing the argument which we are presenting on this blog, which is basically that a key component in the longer term growth stagnation from which Germany is suffering has its roots in the underlying demographics. Basically and in the long run (possibly with a 30 year lag) fertility does matter. Please click on thumbnails for better viewing.

What now follows which will be a very rough and ready attempt to describe in broad brush strokes how the contemporary German economy actually works. First off, and as is well known, German society is ageing, and at the same time the German population has started declining. Not only is Germany's median age rising, the proportion of the population in the key 25-49 age group is now falling.

As can be seen from the chart this crucial age group touched its highpoint in 1997/98. This could be thought of as the moment of maximum capacity for the German economy since it includes the crucial 25 to 40 household-former, first-time-homebuyer group. In terms of credit expansion, it is this group which drives a significant part of internal demand.

The age group also includes another important group, the 35 to 50 years one. This group drives an economy in productive terms, since these are the prime age workers. 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, without addressing underlying issues either through fertility or immigration, it can only move forward more and more slowly. Consumption becomes flat, and GDP growth - gioven the external dependence - fragile.

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 from 1975 to 2000hovered around the 22 - 24% of GDP mark.

Prior to 1975 GFCF was at a much higher level, while post 2000 it has dropped substantially And So what we can see is that the year between, say, 1975 and 2000, when GFCF remaind a more or less constant share of GDP, constituted - 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

And especially 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, it isn't very balanced, and there certainly isn't a steady state.

2008 Forecasts: There is a consenus at the present time that the German economy is slowing. Where there is no real consensus is over the rate at which it is slowing and where and when it will settle. It is clear that GDP growth in 2007 will be below the heady 3.1% annual rate achieved in 2006. The OECD last December revised their 2007 German forecast down to 2.6%, and their 2008 one down to 1.8%. The IMF in their October World Economic Outlook forecast growth for 2007 at 2.4%, slowing to 2% in 2008. Morgan Stanley's Elga Bartsch, while optimistic that the German economy will whether the credit crunch better than most (and here she may well be right) is somewhat more sanguine, putting 2008 growth at 1.5%. In general though I rather doubt her overview that "Germany could well be on the way to becoming the new growth locomotive in Europe." and especially her suggestion that "the phase of underperformance in terms of GDP growth, which has plagued Europe’s largest economy for years, is clearly over." Unfortunately, what we are arguing on this blog is that Germany's GDP growth rates since the mid 1990s are not some special kind of "underperformance", but what can be expected from a society with a rapidly rising median age which is increasingly dependent on exports rather than domestic consumption for growth.

The EU commission in it's November 2007 forecast was also convinced that the German economy was now on a "solid growth path", forecasting 2.5% growth for 2007 and 2.1% for 2008. I personally will be very surprised if we see growth in the region of 2% for the German economy in 2008, and I even consider the 1.8% from the OECD and 1.5% from Morgan Stanley still on the high side given the extent of downside risk. Basically the reasonably favourable depreciation rules which currently apply to German investment have been changed as of 1 January 2008, and we might reasonably expect to see some sort of impact on investment comparable with the negative shock which hit private domestic consumption following the VAT rise on 1 Jan 2007. In addition all the indications suggest that German consumption will continue to be weak in 2008. So if consumer consumption is at best flat, governemnt consumption equally so, and investment and construction weakening, we are simply lefy with export growth, and here the outlook is definitely more negative in 2008 than it was in 2007. The Spanish economy (one important German customer) is visibly wilting by the day, as is the UK (another big customer), but it is to Eastern Europe we must look for the biggest impact on German exports of any correction in 2008. Just one data point should suffice, Germany exports roughly the same value of goods to the Czech Republic (and more to Poland) as it does to China. This means that Geramny is proportionately not that exposed to any slowdown in China, but hugely exposed to any sudden shift in growth and demand in the East of Europe.

So I would say, that on current data, 1% growth in Germany in 2008 look a reasonable estimate at this point, but that this needs to be taken to mean with considerable downside risk. Germany is now tremendously dependent on what happens elsewhere, and until what does actually happen elsewhere becomes clearer it is difficult to be more precise on Germany. The only apparent bright spot on the horizon is employment, but I am dubious that in the context of Germany's ageing workforce this will work through as some are hoping, as I expain at some considerable length in this post here. My opinion is that Germany will enter recession at some point during 2008, and that we may well have 2 consecutive quarters of negative growth. The continuing high euro will maintain pressure on German exports, and high oil and food prices will maintain pressure on the inflation front, at least in the first half of 2008. The ECB will probably switch stance towards rate reductions at some point, but since, as Elga Bartsch among many others so eloquently argues German internal consumption and investment are not especially dependent on credit conditions, easing from the ECB may not have as much impact as one would hope for.