Whiskey Contributor

MAYBE YOU HAVE HEARD ABOUT GERMANY as the sick man of Europe. You may also have heard that the German economy is paralyzed by a web of strict labor laws. In contrast, you may have heard less or nothing at all in the news that Germany has been the world’s export champion for the third time in a row — exporting more goods than China, or Japan, or the United States. Private financial wealth in Germany rose to a new high in 2007. Employment is on the rise. No wonder the German stock market has been a top performer in recent years.

I lived in Germany for much of my life and I can assure you that the Germans are very self-critical. Unless it’s not the very best, it can’t be good. As long as there is room for improvement things deserve to be criticized. I recommend that in order to get a correct picture of Germany, don’t listen to what Germans say about their economy; they are consistently negative. Also, don’t read German newspapers to learn about the German economy; they are always pessimistic. To get a more accurate picture, check the economic stats and compare them with stats from other countries.

It is true that after the end of the European unification boom in the late 1990s, the German economy experienced malaise until 2003. The high cost of unification put a huge burden on the people. Domestic demand was weak. Yet in these years of slow growth, German companies did their homework. Today, the German industrial sector is at the top of the world when it comes to modern capital equipment. Infrastructure in East Germany has been has been brought up to Western standards.

German carmakers are household names. So are chemical and electronics multinationals like BASF and Siemens. But these large companies represent only a part of the German economy; mid-sized companies are its backbone. These companies possess very specialized technological know-how. They are extremely competitive and industrial companies all over the world seek their products.

These mid-size companies are behind Germany’s consistently good export performance. Germany’s competitive position rests with companies that seek to continually improve a specific technological niche. Often privately owned, the owner/entrepreneur plays a central role in business decisions. Most of these companies are so specialized that they must have an international focus. They often possess know-how that makes them a worldwide quasi-monopolist in their area of expertise.

Many of these so-called “Mittelstand” companies produce tangible capital equipment. Linked together by a well-established network of cooperation, they are capable of executing large-scale projects — including the planning and construction of whole factories.

The competitive position of “Mittelstand” companies helps them cope with cost increases. Currency appreciation does not hurt them as much as it hurts most other export-oriented companies. The recent strength of the euro has barely affected demand for the products of these companies. This was also the case in the past when the German mark was in a decade-long uptrend.

The German economy will continue to profit from the investment boom in emerging economies. Demand from Asia is only part of the story. German companies are in a leading position when it comes to infrastructure projects in Eastern Europe, Russia, and the Former Soviet Union. Oil rich countries are showing little price sensitivity in their capital equipment orders from Germany. Demand from the Middle East and elsewhere is so high that the order books of many German capital equipment producers are full for years to come.

For these German mid-size companies, a quick hire and fire system is out of the ordinary. Intensive in-house employee training provides the specialization these companies need. Company loyalty is relatively high. Performance hinges on a culture of trust that runs from the top to the bottom.

Nevertheless, structural problems plague the German economy. The welfare state is overextended and the population is aging. There is a shortage of young engineers. Social contributions and taxes are high. The steep cost of labor has driven German companies to invest in technology and equipment that enhance worker productivity. Like the United States, the market for specialized German labor is tight. German unemployment may be relatively high, but it mainly affects less skilled workers.

An aging population limits the chance that Germany will experience a new “economic miracle.” Domestic demand should remain relatively soft. And most economists think Germany is too dependent on exports.

Yet they seem to ignore the worldwide appeal of German exports. One can also argue that the boom in emerging market infrastructure is far from over; in fact, it may boom for years and even decades to come. German capital equipment producers enjoy a strong reputation among their emerging market customers. In the eyes of foreign multinational companies, Germany has even regained its position as an attractive place to build manufacturing plants.

If the U.S. downturn worsens, this would hurt German capital equipment makers far less than it would hurt carmakers.

Unlike the U.S. and a few other European countries, a housing bust does not plague Germany. In fact, it had a short housing boom immediately after unification. Since the late 1990s, German real estate has been flat. Some observers criticize Germany for its stagnant domestic consumption. But this was actually a blessing in disguise. Resisting the temptation to artificially stimulate the economy, the government opted for structural reforms instead. High household savings and a more flexible labor market have helped improve the efficiency of the German industrial sector.

Bank credit and the stock market are not as important to the German economy as they are to the U.S. The fallout from the current credit squeeze shouldn’t have much effect on German industrial companies. The same holds for a stock market decline. Among the major industrialized countries, Germany’s economy may be the best equipped to weather the coming storms.

Even if the U.S. officially enters recession, the global economy will not stop in its tracks. The BRICs (Brazil, Russia, India, and China) in particular have a lot of cash to spend. These countries have clear plans to modernize their infrastructure and make their factories more efficient. One major area of investment in these countries will be in environmental protection. German companies are world leaders in the area of environmental technology:

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The German stock market, measured by the DAX index, performed well in 2007. This index rose more than 20% even as the euro gained 10% against the U.S. dollar. In the years to come, many a top performers can be found among the smaller companies, even if the major index should decline.

So why things may seem bad here, don’t believe that they are all going wrong fro everyone. The Germans might not be the most chipper people in the world, but don’t let their pessimism fool you, things in Germany are all right.

Regards,
Antony Mueller
January 30, 2008

Whiskey Contributor

Whiskey & Gunpowder occasionally features commentary from financial analysts, experts, gold bugs and an array of contributors from various fields and occupations. Their diverse insights and contrarians investing ideas are hand selected by your Whiskey & Gunpowder editors.

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