The German benchmark index is trading higher at the first day of the new year with investors relieved that 2022, which was a nightmare for equity and bond markets is over. However, while 2023 could get better in the second half, the market might be volatile and under pressure in the first half, or not until the disconnect between the European Central Bank and the market over the outlook for inflation is resolved.
The ECB’s President Christine Lagarde announced that as much as 150 basis points of tightening from Frankfurt over the next four months is likely, describing any downturn in the euro area as “short-lived and shallow”. At present the market is widely expecting the ECB to raise the benchmark rate by 50 basis points in February.
The German economy is likely to shrink through mid-2023 with Russia’s war in Ukraine having the ability to worsen conditions, especially around the energy front. While the contraction in business activity is almost certain, the downturn could be milder than initially thought a few months ago.
While Germany could make it through the winter without Russian energy supplies, the cost of replenishing the empty gas storage facilities in spring, may be too high for the European industry to be competitive in the global marketplace.
On Tuesday preliminary estimates showed the German annual consumer price inflation fell to 8.6% in December 2022, from 10% reported in November and below the market consensus of 9.1%. It was the lowest rate since August 2022 as the government’s initiative to lower household energy bills came into effect. However, inflation could rise in January when gas and heating subsidies end and then a fall from March onwards when the government gas and electricity caps come into effect.
Preliminary numbers for December from the country’s largest federal states pointed to core inflation remaining at more than twice the ECB’s 2% target and showed little improvement at the end of the year. Investors will be assessing the extent of ongoing cost pressures in Germany, which is the largest economy in Europe, for clues about inflation in the euro zone, and how the data could impact the European Central Bank’s forward interest rates decisions.
Data from the Federal Labour Office showed that the seasonally adjusted unemployment rate in Germany was 5.5% in December 2022, unchanged from November’s revised figure and slightly below market consensus of 5.6%, suggesting the overall labour market remained stable despite a deepening energy crisis and record inflation. The jobless rate remained close to its highest level since August 2021, with the number of unemployed decreasing for the first time in seven months.
And while the geopolitical implications of the war are staggering and long-reaching, the single most important consequence to the world, and especially Europe, is the threat of persistent energy shortages over the coming years as Russian energy output has been sanctioned and curtailed for the foreseeable future.
The German economy is suffering from the war in Ukraine; however, sentiment improved in recent weeks as inflation is finally showing signs of peaking and disruptive shortages of natural gas this winter are likely to be avoided.
