German GDP narrowly escapes technical recession in Q4 as rebound is delayed and will fall short of expectations – By Timo Klein 

Frankfurt/Main (14.2.19) – “Flash” data released by the Federal Statistics Office (FSO) shows that German real GDP was almost flat in the final quarter of 2018, posting 0.02% quarter-on-quarter (q/q). This follows negative growth of -0.2% q/q in Q3 and contrasts with solid average growth of 0.4% during the first half of 2018. There were only marginal upward revisions to the GDP levels of recent quarters. Based on the calendar and seasonally adjusted series, the year-on-year rate for total real GDP has declined from 1.2% in Q3 to 0.6% in Q4, having peaked at 2.8% in Q4 2017. Unadjusted for calendar effects, annual growth only declined from 1.1% to 0.9% y/y as working day effects were supportive for once in the fourth quarter of 2018.

 

The slowdown in the global economy, linked predominantly to rising US protectionism and partly the uncertainty about supply chains caused by the looming Brexit, clearly has been more pronounced than previously expected. This is subduing export growth, as is also reflected in the declining trend of leading indicators such as the PMI or the Ifo business climate index. Furthermore, the about-turn towards significantly lower oil prices that occurred in mid-October did not lead to lower fuel and heating oil prices in Germany before early December, so that consumer demand was stifled by curtailed purchasing power for most of the fourth quarter.

                                                 

At the same time, the two technical one-off factors that already provided for negative growth in the third quarter – dip in car output related to a new emission test, logistical problems linked to low river water levels due to the drought – only started to unwind during the second part of Q4.  Most of the rebound related to these special factors will thus only show up in the first or even second quarter of 2019, affecting predominantly the auto and chemical/pharmaceutical sectors (including their suppliers).

 

Today’s “flash” release for the fourth quarter as usual encompasses only data for the overall GDP aggregate and not the individual components. The latter will only be made available on 22 February. Looking at the qualitative guidance provided by the FSO, both domestic demand and net exports failed to provide positive growth, but none of the two reflected recession conditions either. Indeed, roughly half of the large build-up of inventories that occurred in the third quarter (linked to the above-mentioned special factors) were unwound in the fourth quarter. This means that final domestic demand, i.e. consumption and fixed investment, probably increased to the tune of 0.4-0.5% q/q.

 

Among domestic demand components, private consumption apparently increased only modestly while public consumption grew strongly. The latter reflects a catching-up effect after the dampening influence of the delayed budget in the initial months of 2018 (owing to difficult government-building following the elections of September 2017). Private consumption apparently continued to be hampered by the dearth of available cars already certified according to the new emission regulations and also by the uncertainty regarding possibly looming driving bans for diesel cars in major cities. In addition, fuel prices only came down significantly in December, which came too late to elicit much of a consumer response based on higher purchasing power. Therefore, the positive underlying income growth effects due to ongoing improvements in labour market and wage conditions were still being offset by a temporarily higher savings ratio.

 

By contrast, both equipment and construction investment have provided robust contributions to quarterly GDP growth, which in the case of equipment spending represents a positive surprise in light of the heightened degree of geopolitical and global trade uncertainty. The building sector continues to operate near capacity limits, owing to demographic pressure, persistently favorable financing conditions, and government efforts to boost infrastructure investment.

 

Unlike the dip in Q3, exports were able to increase in q/q terms again, notwithstanding the mounting dampening effects from slowing global demand due to growing protectionist tendencies, problems in various major emerging markets, Brexit uncertainty, and Germany’s home-grown problems related to the automobile sector. Imports apparently grew at a similar, modest pace as exports, leading to a roughly neutral impact of net exports on GDP growth. This contrasts with the dampening effect on quarterly GDP growth by a full percentage point in the third quarter. It should be kept in mind that the level of the euro changed little on a trade-weighted basis in recent months – or if anything appreciated slightly. Exports have therefore also shown some resilience in the face of mildly lower price competitiveness.

 

Overall, only flat fourth-quarter growth on the heels of a negative third quarter of 2018 clearly shows there has been a very sharp slowdown compared to the pace of more than 2% annual growth seen since 2014. About half of this slowdown should be attributed to the impact of weakening external demand, the other half being related to one-off distortions (new auto sector emission test; drought) that for the most part will unwind only now during the first half of 2019. While the external environment and thus export potential has continued to deteriorate in recent months, as also signaled by leading indicators, there are offsetting domestic factors – over and above said unwinding effects – that will support the German economy beyond just the next few months. Consumer demand will benefit greatly from higher purchasing power of last year’s above-average wage increases alongside now lower inflation, which is qualified only in part by a higher savings propensity, and various fiscal loosening measures only became effective at the start of 2019. Furthermore, there is no end in sight to the structurally motivated construction boom, helped by persistently low interest rates.

 

In sum, IHS Markit now expects GDP growth of 1.0% in 2019 following 1.4% in 2018. Risks do lean to the downside, however, as global growth forces are continuing to weaken at present.

Best regards Timo Klein