Germany: Risk Assessment

Country Rating¹

Rating: A2

Business Climate Rating¹

Rating: A1

Risk Assessment²

The economy has slowed considerably and will be unlikely to even begin to recover before spring next year at the earliest.
In the second quarter this year, the economy expanded 0.1% compared to the previous quarter. That slow growth was attributable to a decline in household consumption, doubtless affected by the rise of prices, and to a negative contribution from foreign trade with imports growing at a faster pace than exports as a result of both restocking by companies and energy purchases in the wake of the shutdown of nuclear power plants.

Although the economy will likely make some progress in the third quarter, it could contract slightly this winter.
This outlook is borne out by the results of the September 2011 IFO and MARKIT/PMI surveys of companies in industry, services, and construction, which showed that while current conditions were still good, the outlook was deteriorating: Although no longer growing, the economic base nonetheless remains strong. But expectations for the coming six months in all economic sectors, except retail, have, however, been deteriorating implacably since early in the year, duly reflecting the slump in new orders.

The IFO business climate index fell from 115.4 in February 2011 to 107.5 in September. And the MARKIT/PMI index was down to 50, its lowest level in two years, reflecting a balance between positive and negative opinions. In the ZEW survey of financial market actors, meanwhile, 95% of respondents consider the present conditions good or normal and 52% rate the outlook as poor. Despite the recent deterioration, the results of these surveys nonetheless remain higher than they were when the 2008/2009 crisis was going full blast.

The foreign trade contribution could become slightly negative
For exports, which generate 50% of GDP, the road ahead will not be as smooth as it has been. Demand from the euro zone has already declined with exports to that market representing 21% of GDP. Demand from emerging countries, however, which absorbs 37% of Germany's exports including 6% by China alone is only expected to weaken slightly, which will provide a cushion particularly for capital goods manufacturers. Concurrently, imports will slow but to a lesser degree thanks to the continued strength of investment and consumption. The overall foreign-trade contribution to economic growth could become slightly negative.

In a context of relatively accommodating fiscal policy enabled by the success in bringing the deficit down to about 1%, domestic demand will likely hold up better than foreign demand.

The completion of the restocking process and the decline in public spending will be offset by the strength of private investment and consumption. Corporate investment will derive support from the high level of capacity utilization rates and the large influx of new orders recorded in past months that now have to be filled. Residential construction will likely continue the moderate recovery it initiated in 2010. The deceleration of prices, further wage increases, and a continuing bright job picture will tend to limit any loss of confidence by households whose consumption spending will continue at a steady pace in consequence. The Gfk consumer survey in September 2011 brought out the still high level of expectations on incomes and future spending as reflected by the composite confidence index (5.2 from 4.4 a year ago), albeit down slightly from previous month. The Markit survey of retailers bears out the favorable trend.

The improvement trend in corporate profitability will doubtless come to a halt and do so without recovering to the levels prevailing in Germany before the crisis.
Neither the number of bankruptcy proceedings nor the amount of the claims filed in consequence is expected to surge, however, with German companies in better financial shape than they were before the crisis and the economy unlikely to undergo a downturn comparable to the one suffered in 2008-2009. Access to bank financing is described as restrictive by only 22% of the companies surveyed by IFO in September. But the downturn that appears to be getting underway in manufacturing may augur a credit crunch.

Strengths

• Solid industrial base (25% of GDP)
• High product and cost competitiveness and low exchange rate sensitivity
• Significant presence in emerging markets
• Pivotal role of smaller companies, often as exporters
• Research & development
• Integration of Central and Eastern Europe in the production process
• Public sector financial health
• Numerous regional industrial clusters
• No property bubble

Weaknesses

• Fall in working population, low employment rate among women
• High dependence on global markets
• Major weight in the economy of automotive production and exports
• Chronic lagging development of eastern Länder (federal states)
• Weakened banking landscape
• Shortage of qualified engineers