Is Germany's Growth A Good Thing For Europe?

Includes: EWG, EWI, EWP
by: Jacob Steinberg

Today the markets cheered the news that the German economy expanded in the last quarter while many other European economies contracted. The German economy's expansion was large enough to compensate for the contraction in other European economies, this bringing the overall average away from the negative growth territory. Without Germany, the European economy would have contracted by 0.25% in the last quarter. Germany's story sounds like a good news, but is it really good news for Europe? I don't think so.

One of the reasons there is a crises in Europe is that some parts of Europe see growth, while other parts see contraction. Countries like Germany have cheap labor and more business-friendly laws than countries like Italy and France where the cost of labor almost forbids businesses from conducting their operations there. In the last few years, as a part of cost-cutting measures of corporations, many European jobs left the continent to move to countries like China, India and Indonesia where labor is cheap. Of those jobs remaining in the continent, most moved to northern European countries like Germany. If the German economy gains jobs and activity in expense of other European countries, this is not really good for the European economy. This is why I don't understand why markets are cheering when countries like Germany see economic expansion in expense of economies like Italy and Spain.

Will it make it easier for Spain and Italy to pay debt off if the German economy grows by 7% next year? Not really. Will it make Spanish and Italian banks more solvent if the German economy grows by 5%? Not really. Will it stimulate growth in Spain and Italy if the German economy grows by 4%? Again, the answer is "not very likely." Germany is a net exporter and it competes with other European nations for exports. Italy, France, Spain and many others are Germany's competition and these countries are losing against a far more competitive Germany.

Euro currency is helping Germany more than anyone as the country doesn't have a federal minimum wage. Germans can work for much lower wages than members of many other European countries and as a result, German products will be more affordable for the people in the developing world than, let's say, French products of the same quality. Ironically, the debt problems in Europe are keeping the value of the euro lower, helping German exports further. Some say that if Greece was to exit the euro, this would help the currency but not German exports. Therefore, Germans are somewhat motivated to keep the crisis alive so that the euro's value remains low.

I find it funny that Europeans are cheering the news that the German economy is overtaking their economy. At the end of this crisis, Germany might be the last man standing. If European nations don't come up with massive labor reforms, many of them will not be able to compete with Asian and Latin American countries, and jobs will keep flowing from Europe to these regions. Of course it's not Germany's fault that it is more business friendly. Other countries should follow Germany's path if they want to remain competitive.

For investors, this will have some implications. I will continue to recommend German companies that export large quantities to Asian countries, such as car makers. I would stay away from companies that get most of their revenues from exports to Europe. It looks like European economies will continue to shrink outside of Germany as austerity without growth oriented policies will lead to this.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.