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Economy in Brief

IFO Is Not IFFY; Produces Upside Surprise
by Robert Brusca   September 24, 2010

IFO acts like economic UFO – Look up in the sky, it's a bird, it's a plane, no! It's the German economy! Germany's IFO this month does seem a bit over the top compared to what expectations were. Maybe 'UFO' is too strong a characterization, but it did contain Unexpectedly Fantastic Observations… Germany's IFO index performed better than expected in September. Expectations fell just a tick more than had been expected but the climate and current readings for the index rose strongly, exceeded forecasts and had great breadth, and, the absolute levels of the indices remains terrific. Ok, UFO it is...

Composition of strength - The sector diffusion indicators that are available show a minor uptick overall and with MFG, often the leading sector, easing on the month, but not by much. Wholesaling was weakening decidedly in September. The thrust for improvement in September came from a bit less weakness in construction, a strong rise in retailing and an improvement in services which is the key sector for job growth. That's not a bad combination.

So where do the sectors stand in historic comparisons? HIGH! Germany's sector indices all are high in their respective ranges. The retailing and MFG readings are especially strong. The overall index is at a higher level in its range than any of its components a testimony to the combination of breadth and the degree of firmness of the readings. Recast as rankings in a queue of ordered historic values the current index readings are surprisingly strong, with the level of the overall diffusion index ranking in the top 4% of all readings since 1991. Manufacturing ranks in the top 7 percent on that basis and retailing is in the top 3% with wholesaling in the top 4%. The service sector has a shorter time-series but still ranks in the top 17% among all its historic values. Despite its weak diffusion reading, construction nearly stands in the top 25% of all its historic readings since 1991.

Firmness that is robust; severe setbacks lacking - On the combination of balance and strength this is a very firm IFO report. It is light years different from the message in the Zew index and from the Markit diffusion survey on MFG and Services that showed some sharp setbacks. The IFO seems to find a lot of strength in the German economy even given that some sectors are off peak. Granted that expectations weakened in September, but even that reading stands in the top 6% of all expectations observations going back to 1991. Once expectations get near an all time high, some backing off is expected, isn't it?

Not a report form Mars - On balance The IFO respondents are much more upbeat and on much more solid ground than are the respondents to other surveys. It's not like the IFO survey is from Mars. It does find expectations slipping and MFG is off peak but the services sector is still gaining momentum and the retailing sector is advancing as well. The weakness in MFG is a minor downtick and not a substantial set back as in the Markit report.

Blind men feeling for the elephant - Markit found that Germany's PMI for manufacturing declined to 55.3 in September Vs 58.2 in August and that its Services PMI fell to 54.6 Vs 57.2. These are huge drops and are really a whole different story than the one told by the IFO today. It's not even like these are surveys of the same economy although we know the old tale about blind men feeling different parts of the elephant giving very accurate descriptions of the part in front of them that they can touch, but failing to describe the whole. So which of these surveys is missing the whole?

Quandary for the ECB- The IFO survey seems to offer a very different description and prescription for the German economy. It also tells a different story of EMUs key economy as something that might still be a driving force, instead of a waning simpering has-been. This is factor that the ECB will be very interested in. Time will tell which of these surveys is right. The IFO has a long history and is greatly respected as it surveys industries and sector participants across a broad front. It buttresses its diffusion index approach with linked quantity-based indices. Is it the one to emphasize?

Summary of IFO Sector Diffusion Readings: CLIMATE
CLIMATE Sum Current Last Mo Since Jan 1991*
  Sep-10 Aug-10 Average Median Max Min Range % Range
  All Sectors 12.7 12.6 -9.4 -10.0 17.0 -36.0 53.0 91.9%
    MFG 20.0 20.2 -1.9 -0.2 27.2 -42.7 69.9 89.7%
    Construction -18.1 -18.6 -29.6 -30.1 -7.0 -49.9 42.9 74.1%
    Wholesale 13.3 14.6 -14.3 -16.2 23.5 -39.4 62.9 83.8%
    Retail 11.4 9.2 -15.2 -15.2 11.4 -40.2 51.6 100.0%
    Services 20.5 20.0 11.5 12.7 28.5 -14.5 43.0 81.4%
* June 2001 for Services
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