German Business Confidence Declines to Three-Year Low

By Christian Vits

July 24 (Bloomberg) -- German business confidence fell to the lowest level in almost three years in July as record oil prices and higher interest rates dimmed the outlook for growth in Europe's largest economy.

The Munich-based Ifo institute said its business climate index, based on a survey of 7,000 executives, declined to 97.5 from 101.2 in June. That's the weakest reading since September 2005. Economists expected a drop to 100.1, according to the median of 40 forecasts in a Bloomberg News survey.

The fastest inflation in 16 years prompted the European Central Bank to raise its key interest rate by a quarter point to 4.25 percent this month even as soaring energy and food costs squeezed household incomes. With the stronger euro and deepening U.S. housing crisis curbing exports, German Chancellor Angela Merkel said yesterday the country faces a ``clear slowdown.''

``There are more and more signs that economic growth will weaken in coming months,'' said Holger Schmieding, chief European economist at Bank of America in London. ``The Ifo index hasn't reached the low point yet.''

The euro fell almost half a cent to $1.5665 at 10:07 a.m. in Frankfurt. Ifo's measure of current business conditions declined to 105.7 from 108.3, while its gauge of expectations dropped to 90 from 94.7, the lowest since November 2002.

The government forecasts growth will slow to 1.7 percent this year and 1.2 percent in 2009 from 2.6 percent in 2007. Germany accounts for about a third of the 15-nation euro-region economy.

`Last Man Standing'

``Germany is the last man standing in the euroland economy, but it is suffering from a deteriorating international environment and sluggish domestic demand,'' said Soren Dijohn, an economist at Danske Bank in Copenhagen. ``If Germany falls, it will have a profound effect on euroland growth, and downside risks have risen markedly in just a few months.''

Oil prices surged to a record $147.27 a barrel this month and are up 70 percent in the past year. Over the same period, the euro has appreciated 16 percent against the dollar, making European exports less competitive.

Heidelberger Druckmaschinen AG, the world's largest printing- press maker, reported a first-quarter loss last week and said full-year sales and operating profit will decline. The company plans to cut 500 jobs and reduce expenses to counter higher steel and energy prices.

German exports dropped the most in almost four years in May and manufacturing orders fell for a sixth month. The country's benchmark DAX share index has declined 19 percent this year, helping to drive investor confidence to the lowest level since records began in 1991.

Fannie, Freddie

The worst U.S. housing slump since the Great Depression has pushed up the cost of credit globally and roiled financial markets. The world's biggest financial companies have posted at least $460 billion in writedowns and credit losses since the start of last year after the subprime mortgage market collapsed.

U.S. lawmakers yesterday authorized Treasury Secretary Henry Paulson to inject capital into Fannie Mae and Freddie Mac if needed after confidence in the mortgage-finance providers collapsed.

Some German companies are trying to offset falling European and U.S. orders by expanding in oil-exporting countries and Asia.

BASF SE, the world's biggest chemicals maker, last month reiterated full-year profit and sales forecasts as it grows its Asian business. Volkswagen AG opened a plant in Russia in November to tap into that country's oil-rich economy. Europe's largest automaker said yesterday that second-quarter profit rose 35 percent, beating analysts' estimates.

ECB Stance

ECB policy makers say Europe's economic fundamentals are sound and that they're more concerned about inflation, which at 4 percent is running at twice the central bank's limit.

Investors are betting the ECB will raise borrowing costs again by March to contain price increases, taking its benchmark rate to 4.5 percent, Eonia forward contracts show. By contrast, the U.S. Federal Reserve cut its key rate seven times to 2 percent to stave off a recession.

Germany is ``flying at stall speed,'' said Richard Berner, co-head of global economics at Morgan Stanley in New York. Still, the ECB will ``probably welcome below-trend growth to help them bring inflation down.''

To contact the reporter on this story: Christian Vits in Frankfurt at cvits@bloomberg.net