Germany Escapes Recession

You’ve read all about the market story, now comes the macro story. The preliminary Q1 GDP figures from the Eurozone give reason of concern. France GDP remained negative for the second consecutive quarter, Italy contracted for the seventh straight quarter while German Q1 GDP posted a weaker than expected +0.1% q/q following -0.7% in Q4. And with French CPI unexpectedly falling to 0.8% y/y from 1.1% y/y we may expect more talk and hints of negative ECB rates.

Germany narrowly escaped a technical recession. Germany’s export machine was especially highlighted via its continued activity with China despite the renewed Eurozone contraction starting last summer. China’s demand for German high-quality exports (luxury cars, heavy machinery and renewable technology) is on the rise to the extent of lifting its share of German exports to 7% of the total. Exports to the Eurozone account for about 40%, while the rest of the world makes up Germany’s remaining 60%.

Looking closely into that 40%, activity may well begin to shrink. With the Eurozone entering its sixth negative quarterly GDP (longer negative period than during the 2008-9 crisis), Germany narrowly escaping negative growth in Q1 with +0.1% GDP following -0.6% in Q4, each country is out for itself. German exporters are become increasingly dependent on Asia, Latin America and Africa, but China remains at the forefront and the dominant buyer of German exports. In fact, Germany is giving priority to its bilateral ties with China over attaining a level playing field for the European Commission’s access to Chinese markets.

As it occurred with WalMart of the US, we could well see local Chinese manufacturers making the transition from being a supplier to German manufacturers in China to a competitor once they move up further the value chain. But that is looking too far ahead.

Looking into the present, or not so distant future, the question becomes “where will the growth come from?” or “what will revive it?” Germany’s European importers remain in recession, the US has yet to feel the full effect of the sequester, and the US share of German exports has already fallen from 10% to about 6% of Germany’s total exports.

Can Germany fall back on internally generated domestic demand? Both of the nation’s services and manufacturing PMI have contracted below 50, while all of the sentiment indicators (ZEW and IFO) are clearly on the way down. As China’s “new” growth rate settles at 7.0% from the 9-10% era, Germany’s export machine faces serious questions. Berlin is already reaping the benefit of the euro’s current level, which is estimated to be 15-20% lower than it would be under the Deutsche mark. This means more resistance to any upcoming euro rally as the partial solution to the risk of deflationary crisis.