Hamish McRae: German lesson in how economic power is ebbing away from Europe

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The Independent Online

The paradox of Germany's current economic situation is extraordinary. On the one hand it became the world's largest exporter of goods last year, passing the US. On the other, it wrestles with high unemployment, falling living standards and virtually no economic growth.

The paradox of Germany's current economic situation is extraordinary. On the one hand it became the world's largest exporter of goods last year, passing the US. On the other, it wrestles with high unemployment, falling living standards and virtually no economic growth.

This week, hard on the heels of the usual dismal data on industrial confidence, came practical evidence of the decline not just of the economy but also the control that the country has over its business affairs.

It was the resignation of the chairman and chief executive of Deutsche Börse, the German stock exchange. The pair didn't want to go and had resisted attempts to sack them for some months. But the shareholding control of the exchange has shifted abroad: about only 7 per cent of its equity is held in Germany. The foreign shareholders felt that the exchange had over-bid in its effort to take over the London Stock Exchange and should instead hand back some of the funds to shareholders. When its chief executive, Werner Seifert, refused to listen to them, they first blocked the bid and then forced him and the chairman, Rolf Breuer, out.

To anyone accustomed to the British or American way of running the market economy, this story is unremarkable. But in Germany this is new. Depending on your viewpoint, their tradition has been more collegiate and less confrontational, or alternatively more cosy and less transparent.

Unsurprisingly the German establishment is less than thrilled at this loss of economic sovereignty. Franz Müntefering, the chairman of the Social Democrats, called the investors, who are mostly American hedge funds, "locusts". That may be a bit harsh but you can understand the sentiment.

Germany wants more foreign investment but it does not want foreign capital to buy undervalued companies, extracting the value for foreign shareholders. But the opaque German corporate governance practice has helped discourage the cult of equity investment. One practical result is that many German companies are undervalued. That creates investment opportunities for foreign funds seeking to unlock the value.

There is a parallel here between the macroeconomic influence of Germany and other slow-growing economies, and the influence on issues such as corporate governance. The economics team at HSBC recently pointed out how the world is dividing into slow-growth economies and fast-growth ones. The inference is that the slow-growers are losing not just their wealth but also their voice.

One way of looking at this shift of power is to see where growth is being generated. Last year was a good year for the world economy, at 3.7 per cent it saw the fastest growth for more than a decade (see table). Out of that the US contributed 1.5 per cent and China 0.4 per cent. So more than half the growth in the world came from just two countries.

The eurozone had an unusually good year and contributed 0.4 per cent, and Japan, which had a very unusually good one, did the same. This year China is expected again to make about the same contribution as the eurozone. It is still a much smaller economy overall but it is growing faster.

Now look at the same arithmetic for individual eurozone countries. Germany and France contribute the same increase in demand as India and much less than China. Several conclusions flow from this. One is that living standards are almost certain to rise faster in fast-growth economies than in slow-growth ones.

The other graph shows how retail sales in the eurozone have been stagnant for several years. The most recent figures do show a slight and welcome rebound, but there are many doubts in Europe that this will be sustained. And naturally, if consumption is flat in the eurozone as a whole that means that in some parts - in particular Germany - consumption is falling.

The point that follows on from this is that if you are a company interested in growth you have to look to where demand is rising, not where it is stable. Investors may be able to make money by investing in German companies, and those companies may be wonderfully successful exporters, but if there is little or no additional domestic demand in Germany the focus of those companies must be abroad. Indeed, if you couple good companies with a stagnant home market you force them to export instead. So the success of Germany as No 1 export nation is not so surprising after all.

There are two further points. One is that because Germany companies are faced with this need to export or die, coupled with a combination of high labour costs and a strong euro, they have no option but to squeeze down the numbers of people they employ. Luckily for them - but not for German workers - Germany has on its doorstep a plentiful supply of much cheaper labour in Eastern Europe. So that is where the plants are being built.

The other is that every job that moves to Eastern Europe is one less job in Germany, which depresses consumption still further.

The final twist to the story is that the squeeze on German companies has made them very good. They are not, in the main, hi-tech, but they produce the upper-middle technology goods the world wants. Nor are they always big companies: Germany's medium-sized sector has long been one of its great strengths. Even some of the giants, such as BMW, are still family controlled.

This creates opportunities for foreign capital. The longer a family business survives, the more likely it is that the shareholdings will become fragmented. The fact that Germany's underdeveloped capital markets have failed to persuade these companies to float - or at least have only a small proportion of shares held beyond the family - means there are many opportunities for nimble US-based investors to buy shares on the cheap.

In the case of Deutsche Börse, the shares were held largely outside Germany, and this made things easier. But expect more attempts to prise open the closed corporate ownership structures of German companies, often by foreign investors.

Here in the UK we accept foreign control, and even welcome it. London has retained, even increased, its role as the largest international financial centre by accepting that most of its investment banks should pass to foreign control. But up to now Germany has been different. Not only has it resisted foreign ownership. It has also resisted foreign ownership rules and structures.

The big issue is how fast it will change. Deutsche Börse is water under the bridge. Germany can make it difficult for non-nationals to take control of its companies. It is after all a sovereign state, and governments can put barriers in the way of foreign firms - even within the EU. But the plain reality is that economic power is slipping away from Europe, and in a way the German angst at the tussle over who runs its main stock exchange reflects that transfer of power.

Germany knows there are flaws in its financial governance. But it cannot want to have a more innovative and tough financial sector and then squeal when it forces businesses to go for shareholder value rather than grandiose expansion.

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