Thursday, February 20, 2014

German headache for the ECB?

The return of the island of happiness? While confidence indicators in other major economies softened, optimism in the German economy remains strong. The composite PMI increased to a 32-month high in February on the back of a sharp improvement in the service component and stands now at 56.1, from 55.5 in January. At the same time, however, the manufacturing component weakened somewhat, dropping to 54.7, from 56.5 in January. The mild winter weather, low inventories and gradually filled order books bode well for economic activity in the coming months. Meanwhile, however, today’s data also provides new ammunition for those accusing Germany of beggar-thy-neighbour policies. Earlier this morning, the German statistical office reported that real wages dropped by 0.2% YoY in 2013. This was the first drop in real wages since 2009. The drop in real wages can partly be explained by one-off factors as extra payments in 2013 were lower than in 2013. Corrected for these extra payments, real wages would have been up by a meagre 0.2% YoY. Even such an increase would be disappointing. Over the last six years, German real wages have on average increased by an annual 0.5%. Too little to create a consumption boom but also too much to facilitate Eurozone rebalancing. Moreover, another piece of German data should feed another Eurozone debate: the one on deflation as German producer prices dropped by 1.1% YoY in January. While prices of consumer non-durable goods increased by 1.2% prices of intermediate goods were down by 1.8% and 3.0% for energy. In fact, the large drop of the energy component should probably also come back in the next reading of consumer price inflation. As argued earlier, an energy-drive drop in headline inflation should not be sufficient to automatically trigger new ECB action but it should clearly sharpen the discussion within the EuroTower. All in all, this morning’s data from Germany should offer lots of food for thought for the ECB. The German economy is powering ahead but at the same time it doesn't make Eurozone rebalancing any easier. Combined with new deflation fears, this gives a cocktail with a high risk for a headache.

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