The road to Eu­ro­zone re­bal­anc­ing

Financial Mirror (Cyprus) - - FRONT PAGE - Mar­cuard’s Mar­ket up­date by GaveKal Drago­nomics

At a record 7.8% of GDP, Ger­many is run­ning the largest cur­rent ac­count sur­plus in the world. To put that into per­spec­tive, in ab­so­lute terms Ger­many’s sur­plus over the last 12 months amounts to EUR 218 bln. In con­trast, China’s cur­rent ac­count sur­plus last year was a rel­a­tively mod­est EUR 161 bln. With the Euro­pean Cen­tral Bank’s print­ing presses op­er­at­ing at full steam and de­press­ing the euro’s ex­change rate, Ger­many’s cur­rent ac­count bal­ance is act­ing as a pow­er­ful de­fla­tion­ary force for the world be­yond the eu­ro­zone. But it also adds to the dis­in­fla­tion­ary forces at work in the rest of the sin­gle cur­rency area, ex­ac­er­bat­ing the eco­nomic strug­gles of the eu­ro­zone’s south­ern pe­riph­ery.

In the short term, the Ger­man sur­plus is likely to get even big­ger, as euro weak­ness sharp­ens the com­pet­i­tive edge of Ger­many’s ex­porters while boost­ing the coun­try’s net in­come from for­eign in­vest­ments. In the longer run, how­ever, shift­ing dy­nam­ics in Ger­many’s do­mes­tic econ­omy should drive a con­trac­tion of the cur­rent ac­count sur­plus, as­sist­ing a long-awaited in­ter­nal re­bal­anc­ing of the eu­ro­zone’s econ­omy.

The causes of Ger­many’s record cur­rent ac­count sur­plus are clear enough. The Fi­nance Min­istry’s hard­line fis­cal rec­ti­tude has re­stricted gov­ern­ment spend­ing, while Ger­man con­sumers have re­acted to un­cer­tain eco­nomic times by keep­ing their wal­lets firmly in their pock­ets. That has de­pressed de­mand, which in turn has de­terred Ger­man com­pa­nies from in­vest­ing. The up­shot has been high sav­ings rates across the econ­omy, and a fat sur­plus which has only been widened fur­ther by cheap oil im­ports and a weaker euro. Un­for­tu­nately, while many at home re­gard the sur­plus as a sign of virtue, Ger­many’s weak de­mand—and the re­sult­ing dis­in­fla­tion—has only made life more dif­fi­cult for the cri­sis­struck coun­tries of South­ern Europe as they strive to close the com­pet­i­tive gap with their north­ern neigh­bour.

With the ILO stan­dard un­em­ploy­ment rate at a postre­uni­fi­ca­tion low of 4.7%, Ger­man wages are edg­ing higher both in nom­i­nal and real terms, helped by a new min­i­mum wage in­tro­duced at the be­gin­ning of the year. As a re­sult, con­sumer con­fi­dence has re­cov­ered, and both in­di­vid­ual spend­ing and lend­ing to house­holds are on the in­crease as de­mand picks up.

Ul­tra-low—even neg­a­tive—in­ter­est rates and re­cov­er­ing de­mand should en­cour­age cor­po­ra­tions to save less and in­vest more. Lend­ing to the pri­vate sec­tor is now grow­ing at the fastest pace in ten years, al­beit from a low base.

The gov­ern­ment has an­nounced a beefed up pro­gramme of in­fra­struc­ture in­vest­ment this year, as higher tax rev­enues and low gov­ern­ment bond yields give the Fi­nance Min­istry el­bow room to in­crease spend­ing with­out dam­ag­ing the bud­get bal­ance.

Stronger de­mand, weaker sav­ing, and greater in­vest­ment all im­ply a nar­row­ing of the Ger­man cur­rent ac­count sur­plus, which is en­cour­ag­ing news for South­ern Europe.

Against the back­drop of a weak euro, ris­ing con­sumer de­mand in Ger­many will dis­pro­por­tion­ately ben­e­fit ex­porters else­where in the eu­ro­zone over those in the rest of the world. And as the one-off de­fla­tion­ary im­pact of the re­cent oil price col­lapse runs off, stronger de­mand could lead to a pick-up in Ger­man in­fla­tion rel­a­tive to the rest of the eu­ro­zone—a key step on the long road to­wards nar­row­ing the com­pet­i­tive­ness gap and cor­rect­ing the long-stand­ing im­bal­ances within the eu­ro­zone econ­omy.

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