German inflation in August signals new headache for ECB

Based on the results of six regional states, German headline inflation remained unchanged at 0.2% YoY in August. On the month, German price development was flat. Based on the harmonised European definition (HICP), and more relevant for ECB policy making, headline inflation remained unchanged and stands now at 0.1% YoY. A quick look at the available components at the regional levels shows that low headline inflation is not only the result of lower energy prices but also some tentative second-round effects on consumer goods. At the same time, higher prices in the service sector indicate that there is clearly no risk of deflation for the German economy. Interestingly, the weakening of the euro exchange rate is still not visible in significantly higher import prices. To the contrary, import prices continue to fall, with latest data showing a 0.7% YoY drop in August. Looking ahead, the latest plunge in commodity prices should leave its marks on headline inflation in the coming months. Even a drop into negative territory cannot be excluded. Against this background, reaching the official Bundesbank projection of 0.5% annual inflation for the entire year 2015 has become highly unlikely. It would actually require headline inflation to average 0.9% in the remaining months of the year. In our view, headline inflation should stay close to but above zero for the post-summer months before gradually increasing towards 1% YoY. Consequently, these low inflation rates should continue supporting private consumption. While low inflation or even negative inflation rates are a blessing for German consumers, they could become a new headache for the ECB. As at the end of last year when the discussion about a possible QE started, the ECB is again confronted with deflationary forces. Or to be more precise, with disinflationary forces. With commodity prices now significantly lower than back at the end of 2014, the ECB will have to decide whether low or negative inflation rates are rather positive (ie strengthening purchasing power and domestic demand) or negative (ie contributing to dropping inflation expectations). This discussion should be sharpened by the latest round of ECB staff projections, which in our view should show a significant downward revision of the ECB’s inflation forecasts. The last edition of the ECB projections back in June included the technical assumption of an average oil price of 64 USD/b this year, 71 USD/b next year and 73.1 USD/b in 2017 (based on future contracts). Even if the cut-off date of the latest projection round was probably slightly before the peak of recent market turmoil, these oil price assumptions do now look very outdated. Just doing some quick back-of-the-envelope calculations suggests that the new commodity environment could lead to downward revision of the ECB’s inflation projections of between 0.4 and 0.6 percentage points for 2016 and 2017. In June, the ECB projected inflation at 1.5% in 2016 and 1.8% in 2017. Admittedly, the ECB projections are much more complex and sophisticated than our back-of-the-envelope calculations. However, anything else than a clear downward revision of the ECB’s inflation numbers next week would be a surprise. All in all, the latest plunge in commodity prices will clearly revive the good vs bad deflation debate in the EuroTower. For the time being, this should not yet lead to new policy action. However, recent comments by ECB chief economist Peter Praet confirm our view that latest market developments have rather increased than decreased chances for more QE.

German Ifo defies market and China woes

Just a transitional snapshot or a sign of absolute matter-of-factness? German companies remain unimpressed by the current series of uncertainties and turmoil. Neither the Greek crisis nor the new Chinese uncertainties and stock market turbulences have been able to dent German business’ optimism. Germany’s most prominent leading indicator, the just released Ifo index, increased to 108.3 in August, from 108.0 in July. While the current assessment component increased to its highest level since April 2014, the expectation component dropped marginally to 102.2, from 102.3 in July. There are two possible explanations for today’s surprise increase. Either the ongoing stock market turbulences came simply too late to have an impact on the Ifo survey and will therefore only unfold their full negative impact next month, or German businesses are a bunch of ice-cold realists, sticking to the pure facts. In our view, there are many arguments in favour of the latter. And, indeed, the pure facts clearly argue against panic. First of all, as illustrated by this morning’s second estimate of 2Q GDP data, the German economic model has become much more balanced than critics have been complaining about. GDP growth was confirmed at 0.4% QoQ, mainly driven by both net exports and consumption. At the same time, inventories and investment turned out to be a drag on growth. The bigger picture shows that over the last quarters, private consumption has been a stronger growth driver than net exports. While net exports contributed less than 0.2 percentage points to quarterly GDP growth rates, private consumption accounted for 0.3 percentage points. The renewed drop in energy prices should clearly support domestic demand in the months ahead. Secondly, a slowdown of the Chinese economy is not the same as a recession. After years of strong growth, it is somewhat normal that growth rates are coming down. Let’s not forget that at the current growth rate, the Chinese economy would still add the size of the Swiss economy every year. Thirdly, German exports to China have already slowed down in the first half of the year, without derailing the German recovery. The geographical diversification of German exporters should cushion any further weakening of Chinese demand. China currently accounts for less than 6% of total German exports. As long as other major export markets like the US, the UK, Eastern Europe and the Eurozone are continuing to grow or at least avoid a new slowdown, German exports should remain solid. Fourthly, the devaluation of the Chinese renminbi alone should not automatically crowd out German products. To the contrary, over the last five years, German exports to China had recorded growth rates of between 20% and 60%, with an exchange rate much stronger than currently. Last but not least, latest stock market turbulences, Chinese uncertainties and a marginally strengthening of the euro exchange rate have gone hand in hand with a sharp drop in commodity prices. This drop in commodity and energy prices is in our view the final argument against any panic as it should support domestic demand. All in all, it is obviously too early to give the final verdict on the economic fallout of the latest market turmoil and Chinese uncertainties. German businesses, however, are taking a rather benign stance, putting their money on the fundamental strengths of the German economy.

Eurozone: Behind the scenes of Germany's "yes"

Today’s vote in the German parliament will no doubt bring a “yes” for the third Greek bailout package. While the outcome of the vote might not be spectacular, the details are clearly explosive. Greece and the ongoing negotiations have been the dominant topics for German politicians and common people over the entire summer. With today’s vote in the Bundestag, the German parliament could end these discussions; at least for the time being. To be precise: 631 German MPs have returned from their summer vacation to vote on the third bailout package for Greece. Chancellor Merkel’s government holds 504 seats and, moreover, at least one opposition party – the Greens (holding 63 seats) – already announced it would also vote in favour of a third Greek package. Consequently, anything else than an overwhelming “yes” vote would be a surprise. Nevertheless, today’s vote will be a test for Angela Merkel’s leadership. While opposition from other German parties against the new Greek bailout package has been rather muted, it is Merkel’s own party – the conservative CDU – which is still struggling with support for Greece. When the German parliament voted on the start of the official negotiations with the Tsipras government, 60 members of Merkel’s party voted against. In recent days, the “no” voters have received increasing media attention in Germany. According to reports, Merkel’s chief whip, Volker Kauder, had threatened possible dissidents that they would face consequences, like losing posts and positions in the party, in case they do not stick to the official party line. Against this background, all eyes will be on the exact number of “no” votes from Merkel’s own party today. A number higher than the earlier 60 would not immediately be a problem for Merkel. There simply is no crown prince or princess in her own party, neither are there any signs of a palace revolution. However, in the longer run, a growing number of dissident votes would clearly weaken Merkel’s position in the government and might eventually even reduce her appetite to run for a fourth term in office in the 2017 elections. On a more substantial point, the German government will continue having a hard time, even after today’s vote. It’s the role of the IMF in the third Greek bailout package. German politicians have frequently said that there would be no new package for Greece without IMF participation. At the same time, however, IMF participation would mean debt relief or even debt forgiveness for Greece. At least the latter is something, the same German politicians have been strongly opposing for a long while. How the German government wants to square this circle is still unclear. In our view and judging from last Friday’s Eurogroup statement, a face-saving compromise could be that initially IMF participation would be limited to technical assistance, monitoring and surveillance of the Greek reforms. Later, probably in October after a first successful assessment of the Greek measures and their implementation, the Eurogroup could decide on debt relief measures and then bring the IMF on board with additional financial assistance. Such a scenario seems to be backed by Friday’s Eurogroup statement which said that “in line with the Euro summit statement of 12 July, the Eurogroup stands ready to consider, if necessary, possible additional measures (possible longer grace and repayment periods) aiming at ensuring that Greece's gross financing needs remain at a sustainable level. These measures will be conditional upon full implementation of the measures agreed in the ESM programme and will be considered after the first positive completion of a programme review.” All in all, today’s vote might not be as interesting as another episode of “House of Cards” but it has at least the potential to provide some explosives, even Francis Underwood would pay attention to.

German growth - strong without being impressive

Neither Greece nor China were able to stop the German economy. According to the just released first estimate of the German statistical agency, GDP grew by 0.4% QoQ in the second quarter, from 0.3% QoQ in 1Q. Compared with the second quarter of 2014, German GDP increased by 1.6%. GDP components will only be released at the end of the month but available monthly data and the statistical agency’s press release indicate that growth was driven by exports and domestic consumption. Investment was a drag on growth. The Eurozone powerhouse has successfully defied external turbulences. Despite the Greek crisis, the Chinese stock market collapse and growth slowdown fears as well as continued weakness in many Eurozone countries, the German economy continued its latest stretch of four consecutive quarters with growth averaging 0.4%. Since the last technical recession in 2012, the economy has grown by an average of 0.3% each quarter. And there is more. Exports have returned as an important growth driver, showing that Germany indeed is one of the main beneficiaries of the weaker euro. Nevertheless, not all that glitters is gold. The fact that record low interest rates, low energy prices and the weak euro have not led to a stronger expansion in our view shows that the German economy has simply reached the end of its long positive virtuous circle of structural reforms and growth. Normally, such a cocktail of strong external steroids should have given wings to the economy. This is not the case. Looking ahead, mixed monthly data have made it difficult to get a good grip on Germany’s growth outlook. While industrial production disappointed in June, new orders were encouraging and soft indicators – despite some recent weakening – remained strong. Record high employment, low inflation and decent wage growth remain strong trumps for the domestic economy and bode well for the second half of the year. However, at the same time, it is not difficult to envision a cyclical cooling of Germany’s export-driven engine. The key buyer of German capital goods, China, is in the midst of a slowdown, while Germany’s service sector and domestic consumption – despite recent positive developments – are currently still not able to fully offset a possible strong hit to exports. After the rebalancing discussion as part of the euro crisis debate, China’s slowdown will now provide new arguments in favour of more domestic investment in Germany. Finally, although highly positive in the context of the euro crisis, the latest improvement in Eurozone periphery countries will not be able to compensate for the continued stagnation of the French economy and its direct impact for German exports. All in all, the first estimate of German Q2 growth just confirmed that the Eurozone’s economic powerhouse is cruising along nicely, despite several external turbulences. While the Eurozone economy seems to see some signs of rebalancing with the stagnation in France and strong growth numbers from Spain and Greece, Germany remains an almost boring beacon of reliability. Carsten Brzeski

German Ifo defies Greek woes

Forget about Greece. This is at least how German businesses seem to look at Greek turbulences of the last weeks, judging from the latest Ifo numbers. Germany’s most prominent leading indicator just increased to 108.0, from 107.4 in June. Both the current assessment and the expectations component increased, with the current assessment component almost returning to its May level. In the eyes of German businesses, the external tailwinds, stemming from low energy prices and a weak euro, clearly outweigh any downside risk from the Greek crisis on the German economy. Even if the doses has been reduced somewhat, the German economy is still on steroids. Despite some recent rebounds, the weak euro exchange rate and low energy prices are still artificially extending the last phase of a very positive reform-growth cycle. Even after today’s drop, the level of the Ifo remains comfortably high. In fact, comparing the levels of the second quarter with the levels of the first quarter suggests a growth acceleration of the German economy in Q2, confirming our positive growth outlook. Looking beyond the second quarter, the German economy currently faces three major risks: : i) the never-ending Greek crisis, which despite latest positive developments is still far from being solved and could re-escalate quickly almost any time; ii) a longer-than-expected periods of weakness of the US and the Chinese economy (both accounting for 15% of total German trade); and iii) the lack of new reforms to further reduce unemployment and tackle the current investment gap combined with the deficit in digitalization could eventually backfire on the German economy once the current favourable tailwinds disappear. While there is little German policymakers can do to tackle the first two risks, developments in domestic sectors can be influenced. A closer look at the German industry shows that the industrial safety net has become somewhat thinner over the last months. Orders at hand have slightly come down and inventories have remained relatively stable at moderate levels for more than half a year now. This suggests that not too much production acceleration is currently in the German industry’s pipelines. Interestingly, capacity utilisation in the German manufacturing sector is still lower than in 2011 and 2012. Even though financing conditions in Germany remain extremely favourable, average capacity utilisation rates, modestly filled order books and continued uncertainty in main export destinations all argue against an imminent investment boom. In fact, financing conditions are currently so favourable that they might even trigger “economically useless” investments. In our view, the only way out of this dilemma would be government-induced or supported investments in typical public goods, eg infrastructure, energy and education. Last month, Grexit fears were discussion topic number one on German streets, pubs and even boardrooms. With latest developments in the Greek crisis and the agreement to reach a deal, discussions in local pubs can focus again on the upcoming soccer season and, as today’s Ifo index suggests, companies want to return to business as usual.

Helers of kwakzalvers?

In de top 100 van de beste economiefaculteiten ter wereld staan maar twee Duitse. Zijn de Duitsers niet goed in de economische leer? De Griekse saga toont dat dit soort rangschikkingen leuk artikelmateriaal vormt, maar dat de werkelijkheid anders is. Het Duitse economische beleid heeft uiteindelijk gezegevierd, ook zonder internationale academische waardering. Griekenland zal daar weinig vruchten van plukken. Als Tsipras echt iets in Europa wil veranderen, kan hij Angela Merkel en Wolfgang Schäuble beter op een zomercursus economie naar Londen of Milaan sturen. Dat is beter dan ministers van Financiën middelvingers op te laten steken of vuil spuiend in de media te verschijnen. Een blik op het akkoord met Griekenland laat de hand zien van de Duitse economische leer: het ordoliberalisme (of in het Duits: Ordnungspolitik). Deze leer staat voor structurele hervormingen als de enige weg naar geluk en economische groei. Helaas betekent het ordoliberalisme na jaren van recessie, massawerkloosheid en politieke instabiliteit in Griekenland ook nieuwe en langdurige problemen. De Duitse school ziet dat anders. De argumentatie is dat Tsipras door zijn stoere politiek het prille herstel van vorig jaar kapot heeft gemaakt. Dat is een denkfout. De groei van vorig jaar was niet het gevolg van succesvolle hervormingen, maar van kunstmatige groei. Het was het gevolg van Europees geld, dat altijd aan het einde van de Europese financieringsperiode (de laatste was van 2007 tot 2013) wordt uitbetaald. Dat gaf Griekenland een groei-effect van zo’n 2 procent van het bruto binnenlands product (bbp). De kunstmatige groei van afgelopen jaar maskeert een veel dramatischer beeld in Griekenland: de uitverkoop van het land, of voor economen, het sterke verval van de zogenaamde kapitaalstock. Kapitaalstock is de actuele waarde van alle productiecapaciteit van de Griekse economie. Die waarde is sinds 2010 met zo’n 8 procent gedaald. Zo’n afbraak van de productiecapaciteit zie je doorgaans alleen tijdens oorlogen of lange economische depressies. Interessant is dat van alle andere Europese probleemlanden alleen Portugal te maken heeft met een afbouw van productiecapaciteit (in mindere mate dan Griekenland). In Ierland en Spanje neemt de kapitaalstock weer toe. Het huidige akkoord met Griekenland is voor deze investeringsproblematiek erg dun. Europa en de Duitse school hopen nog steeds op de louterende kracht van hervormingen. Het geld uit het zogenaamde Juncker-plan bestaat uit al ingeplande EU-middelen, die met veel vertraging het land zullen bereiken. De 12,5 miljard euro die ooit uit een privatiseringsfonds van 50 miljard zal rollen is wishful thinking. Structurele hervormingen zijn absoluut nodig in Griekenland, maar de opbouw van de productiecapaciteit - lees inkomen en daarmee de belastingen - nog meer. Om politieke stabiliteit te krijgen en het Griekse volk én de niet-Grieken aan de kant van Europa te houden, zal de Duitse economische school zich verder moeten verdiepen. Wellicht stijgen de Duitse universiteiten dan ook in de rankings? Deze column verscheen vandaag in het Belgische dagblad "De Tijd"

Eurozone - Return to calm but not normality

The payment of ECB and IMF obligations seems to be topping the institutions’ scale of priorities. The disbursement of the €7.16bn EFSM bridge loan, approved last Friday, has allowed Greece to meet its compelling short-term obligations. Yesterday, the Greek government disposed both the reimbursement of the €3.7bn bond held by the ECB and the payment of around €2bn to the IMF. As confirmed by IMF spokesman Gerry Rice, Greece is no longer in arrears to the IMF. In another step in the search of normality, Greek banks were allowed (upon the positive advice of the Bank of Greece and the ECB) to re-open yesterday. While many of the capital controls will remain in place, partial functionality should nonetheless help customers. They can now cumulate the €60 daily withdrawals into a single weekly withdrawal and have re-gained access to their bank deposit boxes. With cash holdings in boxes reportedly amounting at around €10bn, this could be another handy source of short-term personal liquidity. The government reshuffle put in place by Tsipras over the weekend was not a game changer. Sure, it proved that in principle the party leadership is keen to re-build reciprocal confidence with lenders and that is unwilling to accept ambiguity when working for a third package. However, for the time being, the destiny of the 39 rebels (who voted against the bill or abstained) has not been decided yet. Tomorrow, the Greek Parliament will vote on the second set of prior actions agreed with lenders: these will include a new code of civil procedure and the adoption of the EU’s Bank Recovery and Resolution Directive (BRRD). In view of the vote, it seems reasonable to expect a replication of the voting pattern shown last week. While the passage of the bill does not seem at risk, the outcome of the vote deserves attention, as any further haemorrhage of support from Syriza’s MPs could in principle weaken Tsipras’ position, pushing him to seek snap elections in the autumn. A positive passage of the second bill should in principle pave the way to the quick start of actual negotiations. With representatives of Greece’s creditors (the former Troika) and of the ESM reportedly already in Athens, pressure for a rapid agreement on the memorandum of understanding of a third programme is already mounting. Yesterday, the president of the EU Commission, Juncker, and of the Eurogroup, Dijsselbloem, said that the Greek parliament must complete the bailout agreement with the ESM within two weeks, as this would allow the disbursement of funds in time for Greece to meet its August financial obligations (another ECB held bond matures on 20 August). At the same time, German politicians are still licking their wounds after last week’s agreement to reach a deal. It still does not feel good. According to media reports, there had been different views on Greece and a possible Grexit between Chancellor Merkel and Finance Minister Schäuble. While Schäuble is still flirting with the idea of a Grexit and even hinted at the possibility of his own resignation, Merkel remarked during a television interview that the Grexit discussions should be stopped. The negotiations had started. Some calm has returned to Greece. After last week’s turbulences, yesterday marked the first day of Greece in a new environment. An environment, in which banks are a bit more open but not really open, taxes are higher and Greece has fulfilled short-term payment obligations but is still struggling to find a third bailout. Clearly not a return to normality.