The Times September 20, 2006

German confidence at seven-year low
By Gabriel Rozenberg, Economics Reporter

Germany: about to be overtaken by Britain as Europe's largest economy.

How things have suddenly got quite depressing for the German economy.

GERMAN economic confidence has plummeted to its lowest level in more than 7½ years this month, in what analysts said was a sign that growth is past its peak in Europe’s largest economy.

The unexpectedly sharp drop in the ZEW business confidence index, its eighth consecutive fall, will chip away at the determination of the European Central Bank (ECB) to raise interest rates.

Concern among investors that a predicted slowdown in the United States could damage Germany’s huge export sector helped to drive the ZEW index down to minus 22.2 for September, from minus 5.6 last month. It was the lowest level since January 1999.

Rising interest rates and a plan to raise VAT by three percentage points to 19 per cent from the start of next year, which has been proposed by the coalition Government led by Angela Merkel, are also expected to damage business.

Erik Sonntag, of ING Financial Markets, said: “Domestic consumption will be hit and trigger a slowdown in the first quarter of 2007. This might continue into the second quarter, given the indicator’s strong negative trend . . . Growth is now past its peak.”

Ralph Solveen, of Commerzbank, said that Germany’s growth rate almost certainly would now be halved to about 1 per cent next year (whereas Europe's 2nd-largest economy, Britain, will grow over 3%).

Analysts were caught out by the weakness found by the survey. In a poll last week, even the most negative economist forecast a reading of no lower than minus 19. The FTSEurofirst 300 index fell on the news.

Wolfgang Franz, president of the ZEW, said: “The positive business climate is at risk. The German Government should not ignore these alarm signals and should redress the serious imbalances in its economic policy.” He added that investment projects in Germany would become costlier because of the ECB’s “restrictive monetary policy”.

Analysts believe that the ECB is all but guaranteed to raise rates by a quarter-point next month to 3.25 per cent. However, the survey may serve to limit its scope for subsequent increases, the first of which had been expected later this year.

David Brown, of Bear Stearns, said: “The ECB might have already sensed it needs to get rates up to an appropriate level before slower growth and lower inflation get in the way of its tightening intentions.”