fra commerzbank:
Germany: There are clearly limits Some organisations are projecting growth rates of over 2% for Germany. Whilst we also expect the German economy to outperform the euro zone average for the time being, we are more sceptical about expected growth; the tailwind from the Emerging Markets is much weaker than in recent years and investment is being constrained by low profit margins. Consequently, the Ifo business climate probably has only limited upside potential. What is more, there is an increasing likelihood that the ECB’s hopes of a significant euro zone economic upswing will be disappointed. Déjà vu? Given the weaker euro and cheap oil, many forecasts for German economic growth this year have been lifted above 2%.
The picture was similar in spring 2014, when consensus expected a 2% growth rate for last year. The euphoria did not last long though: only a few months later, the plunge in sentiment indicators and weaker hard data prompted many to view Germany as being on the verge of recession. Inflated expectations could be disappointed this year too; only private consumption continues to bring good news, as it benefits from a robust labour market and the recent slide in energy prices. Exports and investment on the other hand are not showing such a rosy picture. Barely any tailwind from emerging markets As in spring 2014, there are increasing signs of relatively weak EM demand. Real imports across the EM space in January were 2% lower than in January 2014 (chart on front page) and the Q1 figures available for China’s (nominal) imports (-17.6% year-on-year) argue against the view that this was a one-off decline.
The latest figures reinforce the impression that the boom times are over for Emerging Markets. While they are still growing faster on average than the industrial countries, their growth advantage has narrowed considerably (Chart 1), as several factors that had fuelled growth over and above that resulting from the catch-up process have now vanished: • Private sector debt: Over the course of many years private households and businesses in the emerging markets significantly increased their debt in order to fund additional consumption and investment (Chart 2).
In China, the private-sector debt-to-GDP ratio has surged by 50 percentage points since 2008 to 180% while in Brazil, it has almost doubled in this period, albeit from a lower level.1 Given the high level of debt that has meanwhile been accumulated, the process of debt increases has now slowed and the impetus this gives to the economy has weakened as well. • Commodity prices: Many emerging markets such as Brazil and Russia have profited from the commodities boom and the resulting sharp rise in prices. This is no longer the case. In particular, those countries that have concentrated on energy exports, such as Russia, now face strong headwinds on this front.
CHART 1: EM growth advantage is declining Real GDP, year-on-year change in per cent CHART 2: EM private debt is rising Emerging Markets, debt in % of GDP Source: IMF, Commerzbank Research Source: BIS, Commerzbank Research 1 See “Fed rate hikes: How vulnerable are Emerging Markets?”, Week in Focus, 20 March 2015 -4 -2 0 2 4 6 8 10 1995 2000 2005 2010 Gap Advanced economies Emerging Markets 20 40 60 80 100 120 140 2000 2002 2004 2006 2008 2010 2012 2014 Public sector Private sector Dr Ralph Solveen Tel. +49 69 136 22322 17 April 2015 3 Economic Research | Week in Focus
eAs these impulses disappear, the structural problems in many of these countries – such as a lack of legal security, inefficient administration or deficient infrastructure – are coming to the fore. Since it will take some time to correct high debt levels and a renewed commodities boom is not on the horizon, EM demand for German products should rise at a much slower rate than in past years. Without the booming EM business – its share of German exports has increased since the start of the new millennium by over ten percentage points to 40% (Chart 3) – the German economy would not have been able to expand as strongly as it has done. This stimulus will obviously fade and will not be replaced by stronger growth in the advanced economies. Consequently, despite the weaker euro, German exports will rise at much lower rates than in the years when the German economy was expanding at rates in excess of 2%. Lower earnings margins are dampening investment … Investment could prove a further weak point as investment in machinery and equipment has been stagnating since spring 2014, despite extremely favourable financing conditions and increasing capital utilization in manufacturing. Furthermore, weak domestic orders for industrial goods of late give little hope of a significant revival any time soon. One major reason for this is likely to be the fact that corporate profit margins are coming under increasing pressure from stronger pay growth. In two of the past three years, unit labour costs in Germany have risen at a sharper rate than the GDP deflator (an indicator for companies’ selling prices). While selling prices should rise at a slightly stronger pace this year on account of the weaker euro, this will barely be enough to compensate for the effect of the introduction of the minimum wage on unit labour costs. Consequently, our profit margin indicator, corresponding to the difference of the rate of change of these two parameters, will likely decline again (Chart 4). There can therefore be no talk of profit margins in line with those which accompanied the investment boom in the middle of the last decade; nor is a technology surge like at the end of the 1990s in sight either. … and therefore consumption in the medium term With a share of just under 6½%, the direct influence of investment in machinery and equipment on GDP is of course limited. That said, it does largely determine the direction of the labour market. The year-on-year rates of real capital investment and the working hours of employees have shown a very close correlation over the past few years (Chart 5). Without a strong renewed acceleration in investment, job growth is also likely to lose momentum. Private consumption would then also grow at a slower pace than recently over the remainder of the year, especially as the impetus from lower energy prices is set to diminish. CHART 3: 40% of exports go to the emerging markets Share of Germany’s nominal goods exports in per cent CHART 4: Lower profit margins dampen investment Profit margin indicator: Difference between rate of change of deflator of value-added and unit labour costs; investment: real capital investment, year-on-year change in per cent, 2015 (last figures): own forecasts Source: destatis, Commerzbank Research Source: destatis, Commerzbank Research 20 30 40 50 60 70 80 2000 2002 2004 2006 2008 2010 2012 2014 Emerging Markets Advanced economies -20 -15 -10 -5 0 5 10 15 20 -3 -2 -1 0 1 2 3 1992 1995 1998 2001 2004 2007 2010 2013 Indicator for profit margins (lhs) Investment (rhs) 4 17 April 2015 Economic Research | Week in Focus Sideways growth rate We expect the German economy to expand at a stronger rate than the euro zone average in the coming years. Aggregate capacity utilisation should continue to increase and the unemployment rate should fall. However, at 1.8% in both 2015 and 2016, the German economy will only grow at a faster pace than in 2014 on account of a higher number of working days. Adjusted for this effect, the annual GDP growth rate should trend sideways. Ifo has nearly reached the limit … Although the difference between our forecast and the latest 2%-plus forecasts for 2015 is not that great at first sight, it would still impact financial markets if our forecast materialises. The path of the Ifo business climate can be explained by the year-on-year rate of real GDP and a proxy that we have calculated for company earnings (Chart 6). We project that neither variable will improve but both will actually worsen somewhat. The current upward trend of the Ifo business climate should therefore soon come to an end and the temporary headwind from the emerging markets could produce a fall in the indicator, as we saw in the course of last year (see also page 9). This could shake the currently very high optimism regarding the economy in the equity markets. This is a key reason why our strategists expect the DAX to show more of a sideways movement in the months ahead than a continuation of the current steep upward trend. … pointing to headwinds for the ECB’s growth forecast However, more important for the financial markets in the medium term would be the scenario in which Germany were to barely contribute to the pickup in euro zone growth expected by the ECB. This would mean that the economies in other euro zone countries would have to recover at even stronger rates to meet the ECB’s expectations. This is not very likely in our view, especially due to the sharp rise in private-sector debt in many countries2 . The ECB’s growth expectations are therefore likely to be disappointed. This suggests that the ECB is more likely to increase its asset purchase programme again, or extend it beyond September 2016, rather than taper it or even end it earlier. Of itself, the discussion of such a scenario would further weaken the euro and dampen the gradual rise in bond yields that we anticipate following the turnaround in the Fed’s monetary stance later this year.
