Europe's New Superstar

09/02/2010 4:27 pm EST

Focus: MARKETS

Howard Gold

Founder & President, GoldenEgg Investing

Mention Old Europe and you'll probably think of small, cobblestoned streets, old buildings, wonderful museums—and stagnant economies.

In fact, “becoming like Europe” is for many Americans the worst possible thing that could happen to our country.

But at least one European nation has been posting astonishing growth numbers, easily outdistancing our own. Its top-notch exports have been booming, especially in China, the world’s dynamo, where its brands are highly desired. 

And its unemployment rate, at 7.3% in June, is more than two full percentage points below ours and about in line with that of Canada, our prosperous neighbor to the north.

That country, of course, is Germany, which has bounced back strongly from the global recession and financial market meltdown.

Although problems with its banking system linger—as does the threat of another round of the eurozone’s crisis—Germany’s prowess as an export-oriented manufacturer will leave it in a strong competitive position for years, even as its economic performance becomes more “normal.”

Carsten Brzeski, an economist with ING in Brussels, told the UK’s Daily Mail that Germany’s economy was in a “‘league of its own.’”

German GDP grew at 2.2% in the second quarter. In the US, that figure was recently revised downward to 1.6%, about halfway between that of Germany and the UK’s 1.1%.

So, why is Germany doing so well? A focus on its competitive strengths, a government stimulus program that worked, and the world economy’s big bounce back from the abyss.

Because as good as the second quarter of 2010 was, that was how bad its first quarter of 2009 was. Germany’s GDP plunged 3.5% then, as the world seemed on the verge of another Great Depression. 

But the German government swung into action. Germany’s bold plan included a E480 billion bailout of German banks, E115 billion for troubled companies, and E80 billion worth of domestic stimulus.

There were plenty of “bridges to nowhere” in it—millions of euros going to crazy projects like stud farms and a museum of hunting weapons. But two things worked well: Germany’s own “cash for clunkers” plan, which boosted auto sales and helped domestic parts suppliers; and a particularly effective program that encouraged companies to reduce workers’ hours, but not lay them off.

The basis for the “short-time” working system, “has existed in German social legislation for decades,” wrote Der Spiegel.

“When companies experience sharp declines in sales, they are permitted to reduce their employees' working hours, and the government offsets a portion of the costs. The goal is to avoid layoffs and retain employees until the recession is over.”

The program was wildly successful: It allowed 1.5 million workers to keep their jobs at reduced hours—and continue to spend money—while keeping in place the workforce that would allow companies to gear up quickly once the economy bounced back.

That’s exactly what has happened, and it cost the government an estimated E6 billion a year, less than $10 billion.

Meanwhile, the US economy lost seven million jobs, and many former workers are mired in the ranks of the long-term unemployed.

NEXT: Riding China’s Wave

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But what has really done the trick for Germany has been the revival of China in the wake of that country’s stimulus package.

The booming Chinese economy is a natural market for German industrial products. German exports to China rose 55% in the first half of 2010.

On our recent trip to China, we saw Audis and BMWs all over the clogged highways of China’s major cities. There were plenty of Mercedes’, too. Those three luxury marques have seen sales in China balloon by anywhere from 60% to 130% this year.

Meanwhile, the heart of the German economy, the so-called “Mittelstand”—small and midsized companies that employ most of the country’s workforce, are planning “to create up to 100,000 jobs by the end of the year.”

German manufacturers’ combination of engineering excellence, impeccable quality, and technical innovation enables them to command a premium price around the world. (The weaker euro, because of the recent crisis over Greece and other southern European countries, hasn’t hurt their competitiveness, either.)
That has enabled Germany to be one of the few countries—China and Japan are others—with a trade surplus: Germany’s hit $75 billion in the first half. And total government debt should level off at 80% of GDP over the next few years.

Still, the government of Chancellor Angela Merkel has taken the austerity route, tightening spending sharply in an E80-billion plan aimed at bringing the annual deficit down close to zero. We will find out whether that ultimately cements or undermines the recovery.

This new “German miracle” may be illusory. The country’s “landesbanks”—regional banks—are in big trouble, and may need more assistance. And of course, the eurozone’s crisis may not be over.

 “What could go wrong is some more concerns in the eurozone,” says Heiko Böhmer, editor of Privatfinanz-Letter, a daily e-mail service based in Cologne. “We are strong, but the countries around us are struggling.”

Since a lot of Germany’s exports go to the Old Continent, that could be a big problem. That’s one reason Böhmer says “the second half will be a little bit harder for the German economy.”

Also, Germany has suffered wage stagnation for years, and its consumers are almost too frugal—the opposite problem of what we’ve had in America. Germany’s population is aging rapidly, too, yet the country has an expensive social safety net, including national health insurance. Somebody will have to pay for it.

And though German engineering is second to none, the country’s conservative culture doesn’t encourage the wonderfully creative technological innovation—the Apples (Nasdaq: AAPL), the Googles (Nasdaq: GOOG), the Pixars—that America does so well. Also, the country has a very high tax rate—it averages 45%—and ranks 23rd in the Heritage Foundation’s 2010 Index of Economic Freedom. (The US ranked eighth.)

Plus, although the DAX index has outperformed the Standard & Poor’s 500 index since the March 2009 lows, German stocks rose only 3% annually from 1900 through 2009, badly lagging the US’s 6.2% yearly gain and world champion Australia’s 7.5% annual advance, according to Credit Suisse.

But stock market performance isn’t everything—and marginal tax rates aren’t always the critical success factor, either. If Germany can continue on its current path of prosperity, a lot of people who used to put it down as a hopeless welfare state—the “sick man of Europe”—may have to take another look.

Howard R. Gold is executive editor of MoneyShow.com. The views expressed here are his own.

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