Germany’s IFO Shows Ongoing Weakness and Growing Denial

The IFO climate gauge deteriorated in January, falling to -26.7 from an index value of -26.0 in December. Climate deteriorated in manufacturing, construction, and retailing; it improved in wholesaling and in services. The wholesale gauge improved from -35 in December to -32.4 in January while services improved to -2.2 in January from -5.6 in December. Clearly, the economy is experiencing cross currents with the important services sector improving but deterioration having a larger impact on overall climate.

Current conditions showed improvement in January with the all-sector index improving to -3.9 from a reading of -6.2 in December. Current conditions improved across the board for all reporting sectors. The largest month-to-month improvements by sector are for wholesaling and services.

Expectations worsened over-all month-to-month. The all-sector reading fell to -23.4 in January from -23 in December. All sectors deteriorated with the exception of services that improved to -17.0 in January from -19.7 in December and wholesaling where expectations were flat at -34.8 in both January and December.

Denial- I refer to this report as indicating ‘denial’ since Germany continues to be weak but shows improvement in the current readings this month and yet expectations are not buoyed by the improvement in current conditions- instead, they worsen. This suggests ‘denial,’ and concern that a turnaround will be hard to orchestrate as well as an inability to believe that with conditions so weak -yet improving- that improvement can continue. Germany is undergoing some economic shocks and setbacks as its dominance of the auto sector has been challenged.

Auto sector- Germany’s auto issues began several years ago with improper results reported for emissions tests. In 2020, Mercedes was fined for emission cheating (source). The auto sector problems have worsened as electric cars have begun to take hold and German dominance has not transplanted easily to electric vehicles.

Global Chilling- At the same time, Germany has been impacted in two key export markets, Russia and China, as East-West relations have iced over. And Germany lost its main source of energy when the Russian pipelines went down. All this was in the wake also of an immigrant influx after a diaspora of migrants out of the middle East flooded into the EU. The EU response to that event prompted the U.K. to exit the EU at great cost and disruption. All these shocks to the European-EU-EMU system have helped to upset the German economy, an economy that is highly export-oriented. It jolted the political environment as well. The Russian invasion of Ukraine was ‘the topper’ as Germany had limited miliary investment in NATO choosing to pursue economic objectives and debt/deficit probity, thinking Russia would never engage in hostile economic acts since ‘those times were past.’ At the same time, Russia misjudged the mood in Germany thinking the greater trade intensity with Germany and energy dependence and Germany’s limited military support for NATO meant Germany would be more easily dislodged from its NATO membership in the event of an invasion. There were miscalculations on this all around -as sage U.S. leadership guidance on these issues from Obama to Trump was shunned by Germany, leading up to the geopolitical events of the day and the economic impacts of today. Much of this was avoidable.

In sum: Germany continues to reel from these changes and shocks which it has not yet been able to fully absorb let alone find a back-up plan to engage the issues. The response this month to an improvement in economic current conditions that does not carry expectations higher is a further disappointment.