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Sunday, October 5, 2008

The German Economy Continues To Slow Rapidly

The condition of Germany's economy continues to deteriorate by the month. Industrial output is trending down, domestic demand is down, construction activity is down, exports are struggling to grow, and only employment growth and the services sector continue to show positive signs, and even here the impression is that the situation is gradually worsening.

The tumultuous events of late August and early September in the global financial markets are now evidently making their presence steadily felt on the real economy. And new factor emerged in recent days, with the global banking and financial crisis arriving right on German's doorstep, via the delicate position of the property company Hypo Real estate, who were to have been rescued during the week, but the exact end point of this affair is, at the time of writing, unclear.

With no effective remedy whatsoever being offered from Euope's core leaders, the worst is, most definitely, still to come. The crisis in the banking and financial sector, coupled with the rapid deterioration of the economic outlook in Russia and Eastern Europe is now casting a long, dark and rather awesome shadow over Germany's future. While the sums being mention in the case of the Hypo bail-out - Germany's Die Welt reported Saturday that Hypo may need 20 billion euros by the end of next week and 50 billion euros by the end of the year, while a further 100 billion euros may be needed to shore up the bank's finances by the end of 2009 - are large, there is no doubt about the ability of the German state to shoulder them (unlike its Italian and Greek counterparts), - but even Germany would seem to be in no position to assume such responsibilities and meet the needs of the budget balancing programme for 2011. And this is no mean issue, since should the worst come to the worst, and the state have to assume responsibility for more bank debts than simply the Hypo "trifle", then the net consequence would more than likely be simply a shifting of the financial pressure from the banking sector to German sovereign debt, via the now meticulous activity of those oft cricised entities, the credit ratings agencies. It should never be forgotten that the burden of assuming the costs of Germany's growing elderly population is not insignificant - and this is why it is so important to balance the books by 2011, but carrying the elderly committment and a large banking one would, in all probability, be simply too much for Germany to bear, particularly if the knock on consequences of an Eastern Europe unwind are going to be, as I fear, important.

September Global Manufacturing PMI Shows Sharp Contraction

Germany's manufacturing sector shrank at its fastest pace in at least 5 years in September as output, new orders and employment all fell at a record rate, according to the Markit Economics Purchasing Managers Index out last Wednesday. This result is hardly surprising, since September seems to have been the ultimate "mensis horribilis" for industrial output internationally, with global manufacturing activity contracting for the fourth consecutive month, and output falling to its weakest level in over seven years according to the JP Morgan Global Manufacturing PMI, which at 44.2 hit its strongest rate of contraction since November 2001, down from 48.6 in August (Please see the end of this post for some information about countries included and the JP Morgan methodology).

According to the JP Morgan report the retrenchment of the manufacturing sector mainly reflected marked deteriorations in the trends for production, new orders and employment. The declines in output and new work received were the second most severe in the survey history, while staffing levels fell at the fastest pace for over six-and-a-half years. The Global Manufacturing Output Index registered 42.7 in September, well below the 48.5 posted for August.

The sharpest decline in production was recorded for Spain, followed by the US, Japan and then the UK. Although the Eurozone Output Index sank to its second-lowest reading in the survey history, it was above the global average for the first time in four months. Within the euro area, France and Spain saw output fall at survey record rates, while in Italy and Ireland the contractions were the second and third most marked in their respective series. Germany, which until recently was the main growth engine of the Eurozone, saw production fall for the second month running and to the greatest extent for six years. Manufacturing activity in Japan fell to the lowest in over 6- years with the Nomura/JMMA Japan Purchasing Managers Index declining to a seasonally adjusted 44.3 in September from 46.9 in August.

At 40.8 in September, the Global Manufacturing New Orders Index posted a reading well below the neutral 50.0 mark. JP Morgan noted that the trends in new work received were especially weak in Spain, the UK, France and the US, with the all bar the latter seeing new orders fall at a series record pace (for the US it was the strongest drop since January 2001). The downturn of the sector led to further job losses in September, with the rate of reduction in employment the fastest since February 2002. Conditions in the Spanish, the UK and the US manufacturing labour markets were especially weak.

So basically this is where we get to learn what a global credit crunch means in terms of output and economic growth.

Manufacturing Growth

German headline PMI registered its lowest reading since June 2003, indicating the steepest decline in manufacturing output for six years. Even more preoccupyingly new export orders fell at steepest rate since aftermath of 9/11. The September data signalled a deepening of the recent downturn in the German manufacturing sector, as clients cut back demand in response to the unfavourable economic outlook and concerns over the latest global financial market turmoil.

Once the main engine of growth in the manufacturing sector, there were reports that export demand from the US, the UK and key Eurozone trading partners fell sharply at the end of the third quarter.

At 47.4 in September, down from 49.7 in August, the seasonally adjusted Markit/BME Purchasing Managers' Index (PMI) - designed to give a single-figure snapshot of operating conditions in the manufacturing economy - was below the neutral 50.0 mark for a second month running and at its lowest level since June 2003. At 46.1, down from 49.3 in August, the seasonally adjusted Output Index indicated the fastest reduction of overall production volumes for six years. Panellists widely commented that shrinking market demand had resulted in a fall in output at their plants in September.

According to Markit economics the latest deterioration in overall business conditions primarily reflected substantial falls in output and new work. September's drop in incoming new business was the fastest since mid-2003 and broad-based across the three market groups. Fewer new order intakes led to the most marked reduction of unfinished business since the series began in September 2002. The seasonally adjusted New Orders Index registered 44.9 in September, down from 46.8 in the previous month, to signal the steepest contraction of incoming new work since June 2003.
September data indicated a substantial deterioration in the volume of new export orders received by German manufacturers, primarily reflecting faltering economic conditions in the US and the UK. There were reports that global financial market turmoil had made clients more cautious about committing to new orders. At 43.1 in September, the seasonally adjusted New Export Orders Index was the lowest since October 2001.

Despite making significant inroads into their levels of work-in-hand (but not yet completed), German manufacturers indicated that production levels declined at the steepest rate for six years. Sector data signalled that the fastest fall in output was at intermediate goods producing firms.

Job creation slowed to virtual stagnation in September, as falling workloads gave manufacturers little incentive to increase personnel numbers at their plants. With a number of survey respondents anticipating lower production requirements in the final quarter of 2008, input buying fell at the fastest pace for over five years.

Meanwhile, stocks of finished goods were run down in September, as firms trimmed their sales expectations and sought to avoid unwanted inventory building. Input prices data provided some respite in an otherwise disappointing month for the German manufacturing sector. Average cost burdens rose at the slowest rate for seven months, helped by lower oil and other commodity prices on world markets.

However, German manufacturers indicated that factory gate price inflation remained at an elevated level, with robust increases in output charges broad-based across the three market groups. Factory gate price inflation eased to a three-month low in September. However, at 57.0, down from 59.1 in August, the seasonally adjusted Output Prices Index remained well above the series average and indicative of a robust rise in average prices charged by German manufacturers. September data signalled that marked increases in output charges were broad-based across the three market groups.

Average input cost inflation eased significantly in September, as the effects of lower crude oil and other commodity prices were felt by German manufacturers. Although the seasonally adjusted Input Prices Index fell to a seven-month low of 66.3, the latest reading was indicative of strong overall cost inflation.

Services Output Stagnates

Business activity in the German services sector stood close to stagnation in September.Incoming new work fell for first time in eight months, while future expectations were the second-lowest in the survey history.

September data signalled that business activity in the German service economy was virtually unchanged compared to one month earlier. At 50.2, down from 51.4 in August, the headline seasonally adjusted Business Activity Index was the second-lowest since August 2003 and indicative of a negligible rise in activity. There were widespread reports that weak business and consumer sentiment had held back activity growth at the end of the third quarter.

Markit economics also reported that some firms were noting how attempts to pass through a proportion of their additional costs to clients had a negative influence on market demand. In September, higher levels of activity were largely confined to companies operating in the Renting & Business Activities and 'Other' service sectors.

Meanwhile, slight reductions in activity were recorded at Financial Intermediation and Transport & Storage firms. The volume of new work received by German service sector companies declined for the first time since January. Although only marginal, September's drop in new business levels was broad-based across the service economy.

Anecdotal evidence from the survey panel suggested that global financial market turmoil had dented business sentiment in September, combined with deteriorating prospects for the domestic economy in the year ahead. Average input cost inflation eased further from June's ninety-three month high. Nevertheless, September data pointed to a strong rise in average cost burdens, driven by increased energy prices and staff wages. Faced with renewed pressure on profit margins, service providers increased their average charges at a robust rate in September.

German service providers were highly pessimistic about the twelve-month business outlook in September, with the degree of negative sentiment the most severe since November 2002. At 40.1, the Business Expectations Index was below the neutral 50.0 mark for a fifth successive month. Around 36% of survey respondents anticipate a fall in business activity over the year ahead, which they primarily linked to concerns over domestic economic conditions and weak consumer demand.

JP Morgan Global Manufacturing PMI Methodology

The Global Report on Manufacturing is compiled by Markit Economics based on the results of surveys covering over 7,500 purchasing executives in 26 countries. Together these countries account for an estimated 83% of global manufacturing output. Questions are asked about real events and are not opinion based. Data are presented in the form of diffusion indices, where an index reading above 50.0 indicates an increase in the variable since the previous month and below 50.0 a decrease.

The countries included are listed below by size of global GDP share, and the figures in brackets are the % og global GDP in each case (World Bank Data).

United States (30.5), Eurozone (18.7), Japan (13.9), Germany (5.6), China (4.9),United Kingdom (4.5), France (4.0), Italy (3.2), Spain(1.9), Brazil (1.9),India (1.7), Australia (1.3), Netherlands (1.1), Russia (0.9), Switzerland (0.7), Turkey (0.7), Austria (0.6), Poland (0.5), Denmark (0.5), South Africa (0.4), Greece (0.4), Israel (0.3), Ireland (0.3), Singapore (0.3), Czech Republic (0.2), New Zealand (0.2), Hungary 0.2.

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