Germany’s account surplus jumps, no one is happy

Europe is a cauldron of uncertainty

By David Marsh

All Germany’s biggest European trade partners are in—or close to—recession, with output in the 17-member economic and monetary union (EMU) region contracting 0.4% last year and likely to fall by a further 0.1% this year, according to latest forecasts. Yet Germany’s current account surplus, measuring trade in goods and services as well as transfers to and from other countries, ballooned to a near-record 7% of GDP last year, the eighth consecutive year that the surplus has equaled or exceeded the 5% level widely regarded as unsustainably high for any other than leading energy-exporting countries.

A significant reason for the rise in the surplus was weakness in German imports which, according to the Bundesbank, was due to “raised uncertainty” among companies in Germany which might otherwise be importing foreign goods for domestic investment.

However, the higher surplus also reflects continued export success: a product of Germanic economic flexibility and the country’s sharp rise in trade with non-euro countries.

Germany still relies on Europe for about 69% of its exports. But, strikingly, European states outside the euro—ranging from Russia, Turkey and Poland to the U.K., Switzerland and Sweden—now account for nearly as much of Germany’s overall export total as countries within the euro.

Of Germany’s five top trading partners, three are outside the euro: the U.S., China and the U.K. According to the German Federal Statistics Office, on a relatively narrow measurement, Germany’s main five trading partners last year were, in descending order: France (with €169 billion), the Netherlands, China, the U.S. and the U.K.

However, taking into account the more extensive export and import figures (such as goods held in warehouses) from the Bundesbank’s balance of payments statistics, as well as trade in services, the U.K. comes out on top of the list of Germany’s 2012 trading partners, with an export and import total of €213 billion, followed by the U.S., France, the Netherlands and China.

EMU was supposed to produce economic stability. Yet, five years after the financial crisis, Europe is a cauldron of uncertainty. The sobering truth about the large current account surpluses heaped up by Germany and EMU’s other prime creditor country, the Netherlands, is that Europe’s monetary set-up has consistently produced much larger imbalances than those that caused the collapse of the Bretton Woods fixed exchange rate system 40 years ago.

The record-breaking run of surpluses has propelled Germany’s net foreign assets to €1,000 billion for the first time, according to latest Bundesbank figures for end-September 2012. Not that Germany’s burgeoning foreign assets are generating any rejoicing in Germany. Quite the opposite.

In an astonishing turnaround in the balance sheet of Europe’s largest economy, nearly 90% of the country’s net foreign assets are held by the Bundesbank, in the form of its currency reserves (including gold) and, above all, the now-celebrated Target-2 loans to the European Central Bank (ECB), representing indirect claims on the weakest members of EMU.

Large proportions of these assets would be written off if the euro broke up, an outcome European politicians and the ECB say won't happen, but one which many ordinary German citizens countenance. According to the latest opinion poll from Germany’s ARD public sector television channel, three-quarters of the German population believe that the worst of the euro debt crisis is still to come. This contradicts more than two years of reassuring messages from German and European politicians.

The balance sheet transformation represents a reverse for the Bundesbank, which, after monetary union started in 1999, carried out a major effort, well out of the view of the German public, to reduce its foreign reserves (apart from gold) to make it less dependent on currency and capital market fluctuations. At end-2004, for example, the Bundesbank accounted for just €85 billion or 36% of Germany’s then total net foreign assets of €234 billion.

In the ensuing eight years, the country’s net foreign assets have quadrupled, but the Bundesbank’s total has risen tenfold to a third-quarter 2012 total of €878 billion.

This mirrors a massive reduction of German commercial banks’ exposure to foreign borrowers, led by the euro problem countries. German banks’ net foreign assets fell from a peak of €520 billion at end-2008 to just €8 billion in the third quarter of last year.

Commercial assets have been replaced by official assets: the difference has been made up by the Bundesbank—which accounts for the Target-2 concern. Even though the amounts have fallen from last summer’s peak, latest Target-2 figures for end-March show that the Bundesbank still is owed €589 billion under the ECB lending scheme.

The overall significance of the trade shift is that EMU was designed to “bind in” the Germans into Europe after German unification and make the continent’s most powerful economy more dependent on economic links with its neighbors. In fact, the opposite has happened. Germany has reaped external competitiveness benefits from a relatively low euro caused by the region’s economic problems. It has diversified trade outside the euro area and so reduced its vulnerability to economic weakness among its neighbors.

According to research by DZ Bank, the German cooperative banking group, Germany carried out just 38% of its trade (exports and imports) with the other countries of the euro area in 2012, against 46% in 1999 when EMU started. This reflects the EMU countries’ low growth rates and relatively saturated markets for German goods, as well as much faster expansion further afield.

Trade shares with fast-growing Asian countries have risen especially fast: Germany’s China trade now makes up 7.2% of the total, against 2.2% in 1999. China has now become close to Germany’s traditionally closest trade partner, France, which accounted for just 8.4% of trade last year against 11.0% in 1999. German trade with Poland has risen to 3.8% of the total from 2.3% in 1999, with Russia from 1.4% to 4.0%, with Turkey to 1.6% from 1.2%, with Brazil to 1.1% from 0.8%, and with India to 0.9% from 0.3%.

All euro member countries since 1999 have suffered a fall in the share of their trade within the bloc, with French and Dutch euro trade as a proportion of their total exports and imports falling by 5 percentage points, and that of Spain and Italy dropping even more, by 15 and 11 percentage points respectively—partly because of sharp declines in trade with Germany. But the German transition is the most significant, because it sets a pattern for the entire euro area which looks unlikely to change any time soon.