"Survey says".... German growth has probably peaked

This week further evidence has emerged of Germany's slowing growth trajectory. At 4.9% annual growth (calendar-adjusted) and a tightening bias from the ECB, this was, of course, to be expected.

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Yesterday the Manufacturing May 'Flash' PMI by Markit Research highlighted, in my view, that sentiment is unlikely to remain at these absurdly elevated levels indefinitely, as the index dropped to 58.2 from 62 in April. Notably, the index remained above 60 for five consecutive months.

Today the Ifo Institute released its business survey for May, revealing that industry and trade remained stable in May. This index hovers at record highs compared to a post-unification time series.

Overall, while the two sentiment indicators diverged this month (the PMI waning, while the Ifo holding firm), the story remains that Germany is slowing down. Furthermore, the Ifo survey portends a deceleration in industrial production growth (IP), perhaps over the next quarter.

Exhibit 1 The ratio of the components of Ifo - expectations and current conditions - suggest a sharp reversal in the industrial production growth trend.

The chart correlates annual industrial production growth with the % differential between the expectations and current conditions components of the Ifo index at a 6-month lead. I don't expect IP growth to turn negative, but a slowdown is certainly due.

Exhibit 2 Take the Ifo sentiment with a grain of salt!

Ifo really is more of a coincident indicator of economic growth than anything else. For example, the Ifo composite has a 77% correlation coefficient with annual real GDP growth. Previous to the current recovery/expansion, the Ifo index hit a peak of 108.7 in March 2008 only to see growth decelerate sharply the next quarter, 2.7% Y/Y to 1.6% Y/Y. My point is, while it's a decent indicator of economic strength during expansions, it's a terrible predictor of turning points.

We're not at a turning point now - Ifo plus PMI demonstrate that the German economy continues to expand, albeit at a slower pace.

The real question is, what does this mean for the rest of Europe, specifically the Periphery? It's not totally clear, but certainly with Germany contributing more than 50% to the quarterly growth rate in Q1, downside risks are emerging. Prieur du Plessis argues that this is related to the global slowdown in manufacturing.

Rebecca Wilder