IHS Global: German November Ifo business climate stagnates at high level as expectations correct slightly while current conditions catch up

 

Frankfurt/Main (27.11.16) – In November, the headline Ifo business climate index reflecting conditions in industry, construction, and wholesale and retail trade held steady at a 31-month high of 110.4 (October index revised down from 110.5 originally). This compares to a pre-Brexit level of 108.7 in June and is far above the long-term average of 101.8. Historic extremes are a low of 83.7 in March 2009 in the wake of the Lehman collapse and an all-time peak of 114.3 in December 2010. The latest data is broadly in line with roughly steady November developments for overall PMI. The Ifo institute comment on the latest data by saying that the German economic recovery “remains intact” and that German business appears unfazed by the election of Donald Trump as future US president.

 

The expectations component of the Ifo business climate survey corrected slightly after the strong increases of September/October, slipping from a 31-month high of 105.9 (revised down from 106.1) to 105.5. This nonetheless continues to exceed its long-term average of 100.4 by a sizeable margin. Meanwhile, current conditions advanced for the third consecutive month, rising from 115.1 (revised up from 115.0) to 115.6. This matches the level of March 2014 and is otherwise a four-and-a-half-year high that is far above its long-term average of 103.4. It should be kept in mind that even the latest downward correction of some length (during April-October 2014) only extended to 108.3, never even getting close to its long-term average. On the other hand, the all-time record of 121.9 seen in June 2011 is unlikely to be reached in the foreseeable future due to the high levels of international political uncertainty at present (including the Brexit, the unstable situation in the Middle East and Turkey, and the unclear economic implications of the looming Trump presidency in the US).

 

The separate Ifo survey release about the climate in the service sector – a series available since January 2005 – reveals fresh overall improvement. The headline indicator increased from 32.3 to 34.8, remaining just a whisker below the all-time high of 34.9 of December 2015. This was driven by a large improvement of current conditions from 39.9 to 45.9, which is just below the 46.0 series peak of last December. Expectations, which had been increasing for the past five months, have slipped slightly from an 11-month high of 24.8 to 24.2. This remains close to the all-time peak of 26.2 of November 2015 and well up on the interim low of 13.5 recorded in March. Current conditions, which had deteriorated by a much more limited amount in early 2016 (from 46.0 in December to 37.7 in March) and then rebounded only in a restrained fashion thereafter, have now caught up with expectations. Both expectations and current conditions are far above their long-term averages of 11.4 and 24.1, respectively. The bigger picture reveals that the overall service-sector index initially unwound the break-out to the upside observed in the second half of 2015 during Q1 2016, but has acquired new momentum in recent months. During the almost twelve years of history of this service sector series, expectations have fluctuated between -25.7 (December 2008) and 26.2 (November 2015), and current conditions between -11.2 (May 2009) and 46.0 (December 2015).

 

Meanwhile, the breakdown of the main Ifo survey by sector, relating to goods production and trade, reveals that the manufacturing sector, which had led on the way up in September/October, has now corrected. This was primarily due to a moderate decline in expectations, which had attained their best level in over two years in October. This time the Ifo institute explicitly blames this deterioration on “less dynamic export prospects”. They add that companies are increasingly thinking about raising their output prices. Meanwhile, the construction and trade sectors continue to show an improving business climate. Construction established yet another post-unification all-time high, owing especially to rebounding current conditions but also to another rise in expectations. Business climate among wholesalers gained the most, driven particularly by expectations but also helped by greater optimism about the current situation. Sentiment among retailers benefited from a strong increase in the current conditions sub-index while expectations corrected a little.

 

Overall, the November Ifo business climate report corroborates the view that German growth is accelerating appreciably in the current quarter. The knee-jerk downward correction triggered by the Brexit vote has been fully overcome in recent months, partly due to the realization that the bulk of the likely deterioration in EU-UK trade will probably only occur after the exit now expected for 2019. The Ifo evidence is in line with encouraging German PMI data in the last 2-3 months, includes the highest order levels for manufacturing exports in over two years. Germany’s current economic upswing is more domestically driven than in past cycles (owing to private and public consumption and construction), but prospects for exports are better than the Q3 GDP data might suggest – especially given additional euro depreciation in the wake of Trump’s election in the US. It should also be kept in mind that the impact of the refugee crisis on the economy will remain positive, as government consumption and investment is being raised, enabled by budget surpluses.

 

The November IHS forecasts for (calendar-adjusted) GDP growth in 2016 and 2017 were kept at 1.8% and 1.7%, respectively, having been raised in August from July’s 1.6% and 1.4% when the near-term Brexit impact turned out to be less severe than initially feared. The bias for any forecast revisions for 2017 is to the upside, but a watchful eye must be kept on European political developments in the coming weeks and months, most notably the Italian referendum on changes to the constitution on 4 December and the Dutch and French general elections next year (whereas the German elections next autumn are less likely to lead to any political upheaval).

Timo Klein