New German Ifo business climate index including services declines for fifth consecutive month in April, construction sector booms

 

Frankfurt/Main (24.4.18) – In April, the headline Ifo business climate index reflecting conditions in industry, services, trade, and construction has declined for the fifth month in a row. The Ifo institute have revamped their main indices. Firstly, they are now including the service sector in their headline index and aggregating retail and wholesale trade to one sector. Secondly, they have changed the base year from 2005 to 2015.

The new headline series (total, current conditions, and six-month expectations) only start in 2005 rather than 1991 because service sector data only exists from that point onward. On this basis, the April index of 102.1 is down from 103.3 in March and an all-time (post-2004) high of 105.2 in November 2017. It is also slightly lower than the interim peak of 103.5 attained during the heyday of the post-Lehman recovery in November 2010. Nevertheless, it is worth remembering that GDP growth had temporarily exceeded 4% at that time, whereas this is only in a range of 2.5-3.0% right now.  April’s business climate level of 102.1 remains well above its (new) long-term average of 97.3, let alone the all-time low of 79.7 in March 2009 during the post-Lehman recession. The downward correction of the Ifo data in recent months remains more limited than that of other leading indicators such as the PMI and ZEW surveys lately.  On balance, Germany’s economic outlook remains robust despite the correction from unsustainably high levels in late 2017.

 

The new expectations component has also declined for the fifth consecutive month, declining from 100.0 to 98.7. This is down from a cyclical high of 103.9 in November 2017 and an all-time peak of 106.2 in November 2010. The latest level is still a touch above its long-term average of 98.3. Meanwhile, the current conditions component has held up better in recent month. It declined from 106.6 in March to 105.7 in April, this comparing to an all-time peak of 108.2 only three months ago in January and a long-term average of 96.4.  The last time the current conditions index fell beneath this long-term average in a sustained manner was in 2013.

 

This month, the Ifo institute have refrained from giving any reasons for the renewed decline in their accompanying commentary (in March they had pointed to acts of trade protectionism instigated by the US). They merely state that the German economy is losing momentum.

 

The April breakdown of the Ifo survey by sector, now relating to manufacturing, services, trade, and construction, shows declines across the board – except for construction. Indeed, the latter has enjoyed rebounding expectations for the last three months now, and the total index for construction has reached a fresh all-time record in April. The three other sectors suffered from declines for expectations as well as current conditions, with manufacturing and services suffering the most from deteriorating expectations whereas the drop for the trade sector was driven by worsening current conditions. The Ifo institute point out with respect to the manufacturing sector that capacity utilization (measured quarterly) last slipped by 0.3 points to 87.7%, adding that this remains well above its long-term average of 83.6%.

 

Overall, the new Ifo business climate survey based on changed methodology delivers a very similar message to that given by the old methodology, namely that the economic boom observed during 2017 has been cooling off in recent months. The addition of the service sector has pushed the peak of the Ifo series back by two months from January 2018 to November 2017. The magnitude of the cumulative downward corrections from cyclical peaks has been fairly similar in manufacturing, services, and trade. Deterioration in manufacturing can easily be explained by the uncertainty about global trade growth triggered by concerns about protectionism, whereas the declines for the services and trade sectors are somewhat puzzling given persistently strong labour market conditions (including accelerating wage growth). Construction is a clear outlier to the upside, as current conditions are currently at all-time highs while expectations have recovered most of their December-January dip, reflecting a recent surge in orders and ongoing structural support from demographics and still very low interest rates.

The latest IHS Markit forecast for (calendar-adjusted) GDP growth in 2018, released in mid-April, is 2.6% (down from 2.8% in the January-March forecast rounds). This adjustment is linked to the slippage of both leading indicators and hard data such as production and exports lately.  That being said, special factors such as strikes in the metal sector and an unusually large flu epidemic have artificially depressed output in the first quarter of 2018, suggesting that a bounce back will be seen in the second quarter. A similar argument pertains to exports if concerns about global trade protectionism and euro strength prove to have been overblown. We do expect a growth slowdown to 2.0% in 2019, however, accompanied by a downward adjustment of quarter-on-quarter growth to the 0.5% area.

Best regards, Timo Klein