New realism? Today’s Ifo index shows that German businesses have finally lost their optimism. In May, the Ifo index dropped to 106.3, from 109.9, the sharpest drop since August last year. Both the current assessment and the expectation component dropped sharply. The current assessment component fell to its lowest level since July 2010.
Until recently, it seemed as if the German economy had turned into an island of happiness. The Ifo had defied all Eurozone crisis woes for more than half a year and growth returned strongly in the first quarter. Germans who in the past had often been called “Angst-savers” have all of a sudden become a bunch of happy-go-luckies. In a recent study, Germans turned out to be a people of optimists with a huge majority expecting their lives to turn to the better in the coming year. Today’s Ifo index, however, is a clear signal that even the new German magnificence could come to an end.
With austerity-driven slowdowns coming to most other core Eurozone countries, an obvious cooling of the Chinese economy and a still not very dynamic US recovery, export growth should clearly come down. Moreover, hopes for more domestic consumption on the back of higher wage could easily be disappointed when exporters see market shares dropping. In our view, the wage settlements this year are rather one-offs than the start of a new trend.
Despite the impressive growth comeback in the 1Q12, our outlook for the German economy remains more nuanced than during the last two years. The exuberance of 2010 and 2011 has made room for more realism and lower expectations. The economy will continue to grow but at significantly lower pace.
For last couple of months, it had seemed that the Ifo index painted a too positive growth picture. Today’s Ifo reading has corrected this picture in one fell swoop. German businesses have woken up to reality: islands of happiness might exist, economic islands within the Eurozone hardly.