For some months now, the European sentiment indicators have been going south. To date this has been no cause for concern, as corporate sentiment is still at a high level. Caution is advisable, though, as the global political situation is leaving an ever more emphatic mark.
The current customs conflict and the tariffs the USA has already imposed will continue to be tough to stomach for companies based in Euroland and in particular in Germany. However, the tariffs resolved thus far on steel and aluminium are not the problem. Because the economic damage these duties will do is not great. Things would look different with tariffs on cars or the like. If such customs duties were to be introduced, this would have a considerable impact on the German and European economies.
US President Trump has revealed very idiosyncratic views on economic policy. Thus, he seems to believe that a balance of trade deficit is essentially an open bill. This means that in the US President’s view Europe and in particular Germany and China, but also, for example, Canada and Mexico have for years been exploiting the USA’s economic prowess for their own growth. Accordingly, the USA can only win with a trade conflict, as things can’t really get worse.
In the process, the structural developments in the global economy are being directly called into question. Today’s prosperity is based on a division of labour in the economy with global value-added chains. The business models of many German companies rely on open and relatively barrier-free world trade.
Against the backdrop of the fierce trade conflict between the USA and the rest of the world, the US tax reform no longer seems nonsensical. Given the pronounced momentum of the US economy, lowering taxes was not actually necessary. Low corporation taxes now help the US economy to have a greater resilience to crisis. It is not known whether this was orchestrated from the outset.
In Germany, by contrast, the conflict is starting to leave its first marks on the real economy. While the ifo business climate for the economy as a whole for May bucked the five-month downward trend for the time being, companies in manufacturing remain concerned, with sentiment continuing to sag, for the fourth consecutive month. Here, it is solely the business expectations for the next six months that have deteriorated, with expectations currently as low as last seen in August 2016.
The current crunch in business expectations can be attributed primarily to the fact that export prospects have dimmed. In addition to the international trade conflicts, the US rejection of the Iran deal has had a negative impact. We cannot yet gauge the full extent of this step for German companies. And there are other dangers. Saudi Arabia is planning to limit awarding government contracts to German companies.
All of these factors dent German industrial corporations’ export expectations. The latter have now fallen for six consecutive months and in May were at their lowest since the beginning of last year. Even if a slender majority of manufacturing companies still expect their export activities to rise, optimism has cooled significantly, above all in the car industry, whose most important 2017 sales market was the USA.
The deterioration in sentiment is also gradually becoming noticeable in trends in the real economy. Thus, in recent months order receipts have fallen, which is slowly having an unfavourable effect on industrial output.
Is the German upturn now facing its end? I do not think this is the case yet. To date, we can assume that German growth will be less dynamic, but in general the prospects are still rosy. Moreover, the fundamental demographic trend will mean that unemployment remains very low, even if the momentum of growth slows.
Only in what I consider the improbable case that the customs conflict gets completely out of hand would the growth momentum in Germany and the rest of Euroland dwindle significantly. However, we would then also fi