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Economy in Brief

German IP Rises-But Is It Enough?
by Robert Brusca  April 7, 2014

The chart shows the main elements underlying the improvement in German industrial production. Both capital goods output in the output of intermediate goods are moving up at a brisk pace. Lagging those two sectors is consumer goods output. Consumer goods output has moved to where pace is showing expansion year-over-year, but the pace of that expansion is still somewhat low and the evolution still has a high degree of variability. A closer view at these trends raises some questions.

The table shows the specifics. In February German industrial production rose by 0.4% compared with a 0.7% increase in January. Those two gains combined show a growth rate over the fourth quarter yielding an 8.6% annualized growth rate for German industrial production in the quarter-to-date. That's a very strong impetus to German GDP growth.

German consumer goods are not contributing very much this rise. In February consumer goods output is up by 0.3%, but it had fallen by 1.4% in January and risen by 1.4% in December. As a result, in the quarter-to-date consumer goods output is only up at a 0.6% annual rate.

Capital goods output fell in February but after a 0.9% gain in January. The gain of capital goods in the quarter-to-date is nonetheless robust at a 10.3% annual rate.

Intermediate goods output rose by 1.3% in February after a 0.2% gain in January. In the quarter-to-date intermediate goods output is rising at a 7.9% annualized rate.

Turning to the sequential growth rates for each category (12-mo to 6-mo, to 3-mo), consumer goods show a steady deceleration from 2.9% over 12 months to 2.4% over six months to 1.2% over three months. We would expect the opposite pattern demonstrating building strength given the rebound in the rest of the German economy. This profile is disappointing especially when compared to its year-over-year trend in the chart.

For capital goods the sequence of growth rates is not very reassuring either; capital goods output is up 4% year-over-year, falling at a 0.5% annual rate over six months and rising at only a 0.3% pace over three months.

For the moment it appears that German industrial output is underpinned by the increase in intermediate goods output. Intermediate goods output is the only one of the three major categories showing persistent increases in its growth rate. Over 12 months intermediate goods output is growing at a 6% pace; that rises to an 8.8% pace over six months and to an 8.9% pace over three months. This is the same kind of pattern that we saw looking at German orders. So whatever's going on in the German economy, it is being echoed by trends in orders and in output. It's strange for intermediate goods to be leading the pack with both final goods sectors, consumer goods in capital goods, still struggling.

The missing piece of the picture is construction. Construction output was up strongly at 2.4% in February after a strong 3.1% gain in January; in the quarter-to-date construction output is running a 33.5% annual rate, an eye-popping pace. When looking at sequential growth rates for construction, there is no clear sequential acceleration but the sector is clearly very strong given the height of the growth rates. Year-over-year construction output is up 19.8%; the pace slips slightly over six-months to a still surging 15.9% then accelerates to 34.9% over three-months. Clearly the construction sector is hot; it would appear that intermediate goods output is feeding the construction sector.

Manufacturing output shows persistently strong growth rates but does not show acceleration. Nonetheless, manufacturing production was up 0.5% in February as well as 0.3% in January and in the quarter-to-date is rising at a very healthy 7.6% annual rate. The pattern for industrial orders also fails to provide clear sequential acceleration and, in fact, shows some drop off in the pace over three months.

Turning to some other early-reporting European nations, we see increases in output in Ireland, Spain, Norway, and Sweden in February, with Portugal showing a backtracking on the month. In the quarter-to-date among these countries we see a 26.4% annual rate of increase for industrial production in Ireland, a 22% pace in Spain, a 9.2% pace for Sweden, and a 3.4% pace for Norway. Portugal shows a declining pace of 1.9%.

On balance, this is a picture of strength the first quarter of 2014. Some of the strength seems to be somewhat `technical in nature' because the three-month growth rates for these countries are not as strong as the quarter-to-date growth rates. That suggests that there are some timing issues that are contributing to the increase in first quarter year-to-date output. With another month's data to come to `firm up' actual first-quarter's growth, it seems likely that growth will be lower than the rate calculated in this table for the quarter-to-date. The quarter-to-date growth rates on average exceed the 3-month growth rates by four percentage points. The quarter-to-date numbers represent the pace as it stands now, without any extrapolations.

At this point, even putting the quarter to date calculations aside, and looking at the recent months and sequential growth rates, the message is clear that industrial production is still growing, although it is not so clearly accelerating. We see clear accelerating trends only in Spain and Ireland. If we define acceleration a little more narrowly and compare the three-month growth rates to the 12-month growth rates, we see accelerations in Germany (although not for manufacturing), Spain, Ireland, Sweden, and Norway. That's a bit broader set of gains, but also one that is less well-supported.

The industrial sector clearly is a big part of the turnaround for Europe and, having said that, we have to warn somewhat on the effect of events transpiring in Ukraine. The European Sentix, an index of sentiment, increased today for the EU as a whole but showed some backtracking in Germany.

From GO to STOP? `G' `O'-politics put a stop on growth prospects?

Germany does do a good deal of business with Russia, but not enough to take away Germany's expansion if Russia slows sharply. Still, much of European commerce is being fueled by energy exports from Russia. While everyone's aware by now of European dependency on Russian energy, it's a two edged sword since Russia also needs the revenue from its energy exports. Would it dare to cut the flow and harm itself as well?

Still, the news over the weekend, that Eastern Ukraine is being destabilized, by Russian factions should be chilling. Pro-Russia-factions have taken over key buildings in several cities in Eastern Ukraine, and these factions are calling for some protection from Russian forces that are perched just across the border. This helps to connect the dots on what Russian troops are doing hanging around so close to the Ukraine border. Ukraine leaders have declared that this is a pretext by a few protesters to bring Russian troops across the border to `protect' them. Ukraine leaders have declared that such action will not be allowed. Very clearly this is Ukrainian rhetoric, otherwise seen as saber-rattling without a sword. Still, it's a serious event whether or not Ukraine can defend its borders.

Once again, geopolitics has reared up to affect the way we see the economic tradeoffs and prospects in Europe. Geopolitics once again has become public enemy number one for growth.

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