German Ifo drops in October

Surprised but not frightened? German businesses showed an interesting reaction to the recent series of uncertainties and turmoil. In fact, the reaction can be summarized as impressed but not frightened. Germany’s most prominent leading indicator, the just released Ifo index dropped to 108.2 in October, from 108.5 in September. The first drop since June this year. Interestingly, the drop was exclusively driven by a weaker assessment of the current situation. The expectation component, on the other side, increased to 103.8, from 103.3, continuing its recent positive trend and actually reaching the highest level since June last year. Of course, one should not interpret too much in a single confidence indicator but today’s Ifo reading suggests that the German business community is filing the Volkswagen scandal as a one-off and also shrugs off the risk from a possible Chinese and emerging markets slowdown. Despite these external uncertainties and regular concerns about the real strength of the German economy, German business remain highly optimistic. There are two possible explanations for this trend: either German businesses are naive optimists or ice-cold realists, sticking to the facts. In our view, there are many arguments in favour of the latter. Admittedly, the latest drop in new orders and shrining order books has dented some optimism on the outlook for the German industry. However, continued growth in the service sector, strong domestic demand and an outside world that might be slowing but is definitely not falling off a cliff, should keep the German economy on the sunny side. Finally, let’s not forget that the German economy is one of the largest beneficiaries of the ECB QE programme, taking immediate support from a weak euro and low interest rates. Needless to say, not all is well in the land of cars. The lack of new structural reforms, the unfinished energy reform and too few domestic investments will eventually hit the economy. Moreover, the inflow of refugees, while being short-term stimulus for domestic demand, is the biggest challenge for Germany in decades, posing both enormous risks and opportunities, but in anyway asking for unprecedented and lasting flexibility of both the society and the economy. All in all, today’s Ifo index shows that the German economy is not totally immune against external slowdowns and internal scandals. However, there is no reason at all to fear an abrupt slowdown of the Eurozone’s biggest economy