Drop in Construction Caused German Economy to Shrink

By Christian Vits

Aug. 26 (Bloomberg) -- German companies cut investment in equipment and construction in the second quarter, causing Europe's biggest economy to shrink for the first time in almost four years.

Building investment dropped 3.5 percent from the previous quarter, investment in plant and machinery fell 0.5 percent and consumer spending decreased 0.7 percent, the Federal Statistics Office in Wiesbaden said today. Gross domestic product fell a seasonally adjusted 0.5 percent from the first quarter, when it rose 1.3 percent, the office said, confirming an estimate from Aug. 14. That's the biggest drop since the second quarter of 1998.

The stronger euro and slower global growth have damped demand for German goods just as faster inflation erodes spending power at home. The second-quarter contraction was exacerbated by companies bringing forward investment in construction due to unusually mild weather in the first three months of the year.

``The economy is loosing steam significantly as exports and investments show,'' said Ralph Solveen, an economist at Commerzbank AG in Frankfurt. ``We expect a longer-term economic weakness and don't see a broad-based recovery in 2009.''

The government forecasts that the pace of expansion will slow to 1.7 percent this year and 1.2 percent in 2009 from 2.5 percent in 2007. ``The growth dynamic will moderate in coming months,'' the Economy Ministry said in a statement last week.

In the year, the economy grew 1.7 percent when adjusted for the number of working days. Expansion in the first quarter was revised down from an initially reported 1.5 percent.

Global Slowdown

Growth is slowing around the world after oil and food prices rose to records and the U.S. subprime mortgage market collapsed, making banks reluctant to lend and driving up the cost of credit.

The economy of the 15 nations sharing the euro contracted 0.2 percent in the three months through June, its first decline since monetary union a decade ago, the European Union's statistics office said on Aug. 14.

German exports fell 0.2 percent in the second quarter from the previous three months, when they rose 2.1 percent, today's report showed. Imports dropped 1.3 percent from the first quarter, when they increased 3.2 percent.

Consumer confidence in Germany dropped to the lowest in more than five years as soaring energy prices sapped purchasing power and the economic outlook deteriorated, the Nuremberg-based market- research company GfK said today.

`Particularly Weak'

Economic growth will be ``particularly weak'' through the third quarter, European Central Bank President Jean-Claude Trichet said on Aug. 7. The ECB last month raised its key interest rate to 4.25 percent, a seven-year high, to curb inflation.

German consumer prices rose 3.5 percent in July from a year earlier, up from 3.4 percent the previous month.

While oil prices have retreated 20 percent from a record $147.27 a barrel reached on July 11, they are still almost 60 percent higher than a year ago. The euro, which rose to a record $1.6038 on July 15, has gained 8 percent in the past 12 months.

Second-quarter profit at Sixt AG, Germany's largest car- rental operator, fell 6.1 percent because of higher financing costs, the company said this week. Sixt predicted pretax earnings this year will fall as much as 16 percent.

The benchmark DAX share index dropped 16 percent in the past year and German factory orders fell for a seventh month in June.

Linos AG, a German maker of optical equipment, said last week it no longer expects 2008 profit and sales to rise, citing postponed orders and lower semiconductor equipment sales.

Emerging Markets

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

Siemens AG, Europe's largest engineering company, last month reported third-quarter earnings that beat analyst estimates on increased orders for power plants and generator upgrades in Russia and China. Siemens said on Aug. 5 that it will get 10 billion euros ($15.5 billion) of annual orders from China by 2010 as the country boosts spending on utilities and transport networks.

Still, economic expansion in Asia and parts of Europe may not offset weaker global growth. ``Even in emerging markets we see a significant easing in activity,'' said Joerg Lueschow, an economist at WestLB in Dusseldorf. ``We face a global, cyclical slowdown.''

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