German Business Sentiment Breaking Down

September 24, 2008

The prestigious IFO Economic Institute of Munich surveys firms each month for their assessment of whether business conditions are currently good or bad and whether such are likely to become more or less favorable during the next six months.  In alarming language that I cannot recall for quite some time after today’s release of the September survey results, IFO officials concluded that the downward trend in sentiment “is proceeding in large steps.”  The graphic meaning behind those words can be observed in the documentation below of changes in the index since the worldwide banking crisis surfaced in August 2007.  The table depicts the differences in the index from one period to the next.  The first column of figures shows the changes between August 2007 and September 2007. Column 2 depicts changes in the six months or two quarters between September 2007 and March 2008.  The third column has changes during 2Q08, that is between March and June, and column 4 lists the differences during the third quarter of 2008.  Data in the fifth and final column are the monthly differences between August 2008 and September 2008.

  Sept ’07 Mar ’08 2Q08 3Q08 Sept ’08
Business Climate -1.6 +0.2 -3.5 -8.2 -1.9
Situation -1.5 +1.3 -3.4 -8.4 -3.5
Expectations -1.7 -0.6 -3.8 -8.0 -0.5
Mf’g -3.3 -1.0 -9.8 -19.5 -4.8
Construction -3.3 -1.2 +2.8 -6.2 +1.2
Wholesale +2.8 -3.4 -5.7 -12.4 -4.8
Retail -8.6 +11.4 -5.7 -17.2 -2.5


Sentiment took a big immediate hit, dropping significantly between August and September of last year (the column of first differences labeled September 2007).  For example, overall business sentiment fell 1.6 points from 106.0 in August to 104.4 in September of last year.  But scant additional change occurred over the ensuing six months between September 2007 and March 2008.  Although the financial crisis festered and both the euro and oil prices climbed painfully, the mood in the German business community held its ground at levels historically associated with decently positive growth.  That resilience crumbled in the second quarter of this year, when in fact real GDP fell 2.0% at a seasonally adjusted annual rate, and the business sentiment index dropped about twice as much over the course of 3Q08 as it had during 2Q08.  In those two quarters, the perceived deterioration of current conditions (“situation” in IFO’s vernacular) and six-month expectations worsened in tandem.

The bottom four rows of the table provide a sector breakdown of changing business sentiment.  Retailers were most heavily influenced when the news of the sub-prime credit crisis first surfaced, but their mood recovered completely when it became apparent that the sky wasn’t falling.  After March, manufacturing caved most sharply at first, but by 3Q08, sentiment among wholesalers and retailers were also darkening rapidly.  The construction sector, by comparison, has been more resilient.  Between August and September as seen in the final column above, for example, contractors appraised their current business situation as well as the six-month outlook somewhat more favorably than they had in August.  Like most other economic think tanks in Germany, the people at IFO had approved of the ECB’s rejection of political calls for a rate cut.  Risks to price stability were simply too high.  But now, IFO has recommended that the ECB Governing Council consider reducing rates.  Continental European officials pride themselves in not doing this or that with interest rates just because of some outsider’s advice.  However, the central bankers see the same trends we all do.  If and when ECB officials  become convinced that core inflation has crested, I believe policy will shift gears.  That may entail a longer delay to the first move than many would hope because of selected instances of second-order pressures on prices that are still occurring, but once rates start to move down, they will be apt to fall more quickly than many will be expecting.



Comments are closed.