Why The Big Bad Mark Doesn't Faze Germany Inc.John Templeman
A big budget deficit in Italy. A British government divided over Europe. A preelection wave of scandals in France. Little wonder that currency traders are fleeing out of lire, pounds, and francs. Since Jan. 1 alone, the German mark has risen sharply against major European currencies (chart) while also hitting a two-year high against the dollar. And the Bundesbank seems prepared to let it move even higher.
Europe could be heading into a new period of currency turmoil. Shock waves from the strong mark are already hitting Germany's neighbors hard. The lira fell to a record low against the mark on Feb. 22, for example, even though the Bank of Italy raised its discount rate by 0.75 points, to 8.25%. The Bundesbank poured fuel on the fire by saying it will increase interest rates if Germany's inflation--just 2.3% in January--starts rising again. That would send the mark even higher. Says Stuart Thomson, London-based economist with Nikko Europe PLC: "The Bundesbank is quite content to see the mark appreciate."
As economic and political woes mount in several European countries, the mark has become the currency safe haven of choice. Huge volumes of money are flowing into Germany even though its militant IG Metall union called a strike for higher wages against selected plants in Bavaria starting Feb. 24. The Bavarian strike could be the precursor to a nationwide action, but that is not stopping the money flow from the rest of Europe.
FRENCH SURPLUS. For their part, Germany's big companies are not yet fazed by the rising mark. A half a decade of cost-cutting is starting to pay off. Their rush to Asia, for example, provides handy insurance against foreign exchange turmoil. Electronics giant Siemens already does final assembly of semiconductors in Malaysia and has earmarked $3.4 billion for future investment in Asia. Says Siemens Executive Board member Jens Banaschek: "We do not base our strategy on short-term exchange rates."
There are, of course, some pluses to a strong mark. It could help boost the exports of countries such as France, which is running its first trade surplus in years. Many analysts figure the stronger mark will help stiffen corporate resolve in Germany to resist high pay claims, such as IG Metall's. And it should help Germany offset higher imported commodity prices, which soared 23% last year.
The big risk is that a prolonged period with the mark excessively high could eventually squeeze German exporters-- everyone from luxury-car makers to drug companies. Take Geers Hurgerate, a Mittelstand manufacturer of medical products. It exports about 15% of its $54 million in sales but can't raise prices abroad because of fierce competition. But so far, there are compensating effects in the currency swings. Says owner Volker J. Geers: "We buy a lot of supplies in the U.S., so that balances things out."
FOOTLOOSE CASH. German financial markets have yet to benefit from the mark's rise. The German bond and equity markets are both flat. That's because the inflows are "hot money"--billions in footloose cash held by big institutions such as pension funds and parked in short-term offshore accounts. These could vanish as fast as they appeared, creating more turbulence. But the Bundesbank is not worried. "If it's a temporary phenomenon," says Thomas Mayer, chief economist at Goldman, Sachs & Co. in Frankfurt, "it shouldn't be too disruptive."
The same is true of an IG Metall strike. The 3 million-member labor union covers huge swaths of German industry from auto manufacturing to electronics to steelmaking. A settlement near the 6% demand could fire up inflation, prompting the Bundesbank to raise key interest rates, such as the 4.5% discount rate. But the betting is that the final deal will be in the 3%-to-4% range. Already on Feb. 20, one north German foundry, Poppe und Sohn in Kiel, broke ranks and signed a house deal giving its workers a 4% raise.
A nationwide settlement of that size won't be catastrophic for German industry. Last year unit labor costs in manufacturing tumbled more than 6%, thanks largely to a 10% productivity leap in sectors such as engineering. Even so, German companies will have to race harder this year to cut costs and stay competitive. And the longer the mark stays strong, the harder and faster they will have to run.