Germany's example to an ailing Europe

With falling unemployment, brimming order books, and buoyant business and consumer sentiment, Germany seems like an island of contentment shielded from the European debt crisis raging around it.

Many of its EU partners have been forced to adopt stringent austerity programmes that are expected to condemn the euro zone as a whole to zero growth at best next year. But Europe's powerhouse economy is doing so well that the government of Angela Merkel, the chancellor, is contemplating modest tax cuts to aid her re-election bid in 2013.

Amid the gloom, Germany's most important leading indicator, the Ifo institute's business-climate index, surprised economists this week by rising in December for the second straight month. Significantly, the sub-index measuring future expectations increased, showing that the 7,000 corporate managers surveyed remained optimistic despite continued uncertainty over the single currency and the cost of rescuing it.

Consumer sentiment as measured by GfK, a market research company, also improved. GfK detected the first rise in economic expectations in five months.

How has Germany done it?

"We have a very broad industrial base and are highly export-oriented," Lothar Hessler, a senior economist at HSBC Trinkaus & Burkhardt, told The National. "And we don't just export to Europe. We have strong and growing demand for our goods in the big emerging markets of China, India and Brazil."

Europe remains Germany's biggest market by far, with 60 per cent of the country's exports going into the EU in the first three quarters of this year. But exports outside the EU remain strong and are cushioning German industry against steadily weakening demand in Europe.

France and Britain, the second and third-largest economies in the EU, respectively, are looking on with envy and ruing the gradual decline of their industrial sectors over the past three decades.

In Germany, manufacturing still accounts for almost 25 per cent of GDP - almost twice the rates in France and Britain - because the country's automotive and engineering industries remain internationally competitive, thanks to a mixture of high quality, specialisation and steady cost-cutting.

The country, dubbed the "sick man of Europe" a decade ago because of its bloated welfare system and chronic over-regulation of markets, has cut back benefits, reformed its labour market and kept its budget deficit under control.

Its state-assisted, short-time working system enabled hundreds of companies to survive the 2009 global downturn with their workforces intact, while other nations were putting thousands of skilled workers on the street. Germany's partners, especially France and the US, have complained that it has contributed to the economic imbalances plaguing the euro zone, prospering at their expense by becoming increasingly productive through years of modest wage deals and cautious government spending. As a result, Germany has big trading surpluses with many of its European neighbours.

But that criticism has died down as the euro crisis has intensified this year. Now, it seems, everybody wants to follow the German model. At this month's EU summit, Mrs Merkel got her way when 26 out of 27 EU member states - with Britain as the only exception - agreed to her demand for a treaty enshrining budget rectitude.

And even the euro-sceptic British government has been calling for an expansion of the country's manufacturing sector, citing Germany as an example.

Despite its strength, Germany has little chance of avoiding a major slowdown next year, at least early on, and may even dip into recession, as a result of waning European demand. But the current data makes plain that German companies are so strong and productive, and domestic demand so stable, that the slowdown will be brief and far milder than the downturn Germany suffered during the global slump in 2009, when its GDP contracted by a staggering 5 percent. "Ifo speaks a clear language. Things won't be as bad as 2008-2009," said Mr Hessler. "There is a lot of uncertainty on the policy front regarding the euro crisis, but our industry is well prepared."

In a research note on Tuesday, Goldman Sachs wrote: "We continue to hold the view that the German economy is facing a period of weaker growth and recession. But we also expect that slowdown to be rather short-lived. Ifo illustrates that the German corporate sector is in a robust position to deal with any adverse shocks."

Predictions for German GDP vary wildly, with Mr Hessler forecasting a slight contraction for next year after a projected 3 per cent growth this year. Other bank economists and institutes are more optimistic, with predictions of growth of as much as 1.2 per cent. There is a consensus that the brunt of the slowdown will be in the final quarter of this year and the first of next year, after which growth is likely to resume.

The wide spread of forecasts is not surprising. Much will depend on how the debt crisis pans out and whether the rescue measures agreed to at this month's summit will restore investor confidence before Spain and Italy begin refinancing their debt with major bond issues early next year.

business@thenational.ae