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.
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.
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.
Following some discussion in the comments section, I am adding the following charts to try and clarify what I am saying about internal consumption and construction. The first chart shows clearly how the construction and housing sectors are in long term decline in terms of their importance in the German economy. If we leave of the very exception 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 simply are not seeing.
If we look at the most recent data, it is clear that there is an annual cycle, but otherwise there is very little movement, except for the uptick at the end of 2006, begining of 2007.
If we now look at the co-movement of a number of different components - exports, GDP and housing - we can see that every time the rate of increase in exports slows (the green line), 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).
Finally, as I keep indicating, the backdrop to the whole situation 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 the VAT hike, which can be seen at the end of 2006.
Of course, it is not only Germany's median age which is rising, the population structure is in continuous change, and in particular 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, 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 your 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.
Edward Hugh has a lively and enjoyable Facebook community where he publishes frequent breaking news economics links and short updates. If you would like to receive these updates on a regular basis and join the debate please invite Edward as a friend by clicking the Facebook link at the top of the right sidebar.