German economy’s record slump harbinger of European weakness

Spain, France and Italy will probably report even deeper economic contractions on Friday when they report GDP.

Angela Merkel
The pace of Germany's recovery will depend on the efficacy of its stimulus package and how long it takes for export demand to rebound, but the outlook is still uncertain, even after an unprecedented European Union fiscal deal championed by German Chancellor Angela Merkel [File:Geert Vanden Wijngaert/Bloomberg]

Germany’s economy shrank the most in at least half a century in the second quarter, outlining the scale of the challenge facing Europe after the devastation of virus restrictions that slammed businesses and households.

The 10.1% drop in output in the region’s largest economy is a harbinger of worse figures elsewhere. Spain, France and Italy will probably report even deeper contractions on Friday, reflecting a recession that prompted an unprecedented policy response from governments.

While indicators show a rebound is already underway, the threat of job losses as well as mounting concerns about a resurgence in viral outbreaks risk slowing the return to pre-pandemic levels.

Companies across Europe have seen sales plunge, and many are cutting jobs to streamline for a prolonged period of weaker demand in their sectors. Aviation and travel have been particularly hit, and Airbus SE on Thursday said it would pare back production. Volkswagen AG cut its dividend after it recorded a first-half loss, though the German car maker expects a gradual recovery to continue in the second half.

In Germany, consumer spending, exports and investment all fell in the second quarter. The pace of the rebound will rely in part on the effectiveness of the government’s 130 billion-euro ($153 billion) stimulus approved in June and how fast demand for German exports picks up. But the outlook is hugely uncertain, even after an unprecedented European Union fiscal deal championed by Germany and France.

What Bloomberg’s Economists Say…

“We estimate that social distancing rules, together with consumer and corporate caution, will put a ceiling on the recovery of 3-6% compared with pre-crisis norms. Weak external demand is also likely to be a limiting factor with many parts of the world struggling to get the virus under control.”

-Jamie Rush. Read the full REACT

A similar picture is playing out across the euro-area, where governments have stretched their budgets on health and welfare spending, and the European Central Bank launched an emergency bond-buying program to get the economy through the crisis.

Job cuts remain a major risk for the outlook. Germany’s national airline Deutsche Lufthansa AG is slashing thousands of jobs, and car maker Daimler AG is reducing hours for some workers for a year.

In a separate release, the European Commission’s indicator for confidence in the euro-area outlook rose more than economists expected in July, with businesses becoming more upbeat about demand. Still, at 82.3, the index is more than 20 points below its level in February. Unemployment in the region rose to 7.8% in June, the highest since early 2019.

If rising joblessness translates to weaker demand, that could also weigh on inflation pressures. Prices have already begun falling in Spain and are stagnating in Germany, separate reports showed on Thursday, though in the latter case it largely reflected the influence of a cut in the value-added tax.

“There will be a strong rebound in the third quarter,” said Aline Schuiling, an economist at ABN Amro. “But if I look at the monthly activity data or the high frequency data, what you can see for July is that parts of the economy continue to be disrupted and that activity is still well below the level before the outbreak of the virus.”

(Updates with inflation in ninth paragraph.)

-With assistance from Harumi Ichikura, Kristian Siedenburg, James Hirai, Catherine Bosley, Piotr Skolimowski and Adeola Eribake.

Source: Bloomberg

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