Central Europe fears effects of German slowdown

Over the past 27 years, Nemak Gyor has carved out a niche making cylinder heads for Europe’s automotive industry. But with production at Germany’s giant carmakers declining, the Hungarian group has been forced to lay off 180 people, or about 20 per cent of its workforce. 

“All of them had to shut down their plants for some weeks, and during this period they did not order parts from us, so we had to shut down our production as well,” the company’s chief financial officer, Gabor Mersich, told the Financial Times.

Nemak Gyor is not alone in feeling the knock-on effects of the German recession, which economists fear will be its deepest since the second world war. Germany is central Europe’s biggest trading partner and, across the region, the impact of the slowdown in German industry is rippling through supply chains which, over the last 30 years, have become tightly intertwined with the fortunes of Europe’s biggest economy.

Economists say these linkages with Europe’s slowing economic motor will exacerbate the hit to the region’s economies from the lockdowns they have introduced to fight the coronavirus pandemic. But they could also help accelerate the recovery across the region — Europe’s fastest-growing in recent years — once Germany’s economy kicks back into gear.

In the short term, the effects are likely to be painful. Czech and Polish purchasing managers’ index data released on Monday showed that manufacturing continued to contract sharply in both economies in May. Countries and businesses with close links to the German car industry, where production has dropped to just 45 per cent of capacity, according to an estimate earlier this month from the Munich-based Ifo Institute, will be particularly hard-hit.

German carmaker BMW has already postponed a €1bn investment in Hungary. And in Slovakia’s car industry, production in April was just 18 per cent of the level recorded a year earlier, according to Katarina Muchova, an economist at Slovenska Sporitelna bank in Bratislava. “April was the worst month ever in the car sector,” she said. “Most of them were just completely shut.”

Dan Bucsa, chief central and eastern Europe economist at UniCredit, said: “There are big questions about demand and restoring production in the car industry — that will be an issue especially for Slovakia, the Czech Republic and Hungary, but also for Poland and Romania.” Mr Bucsa added: “CEE companies are part of European supply chains and German car and car part producers dominate these markets.”

Economists at the Vienna Institute for International Economic Studies (WIIW) are expecting gross domestic product to decline by 9 per cent in Slovakia, 7 per cent in Romania, and 5.5 per cent in Hungary.

“The [coronavirus] lockdowns in these countries were all pretty similar: they were all pretty strong, and they were all introduced pretty quickly. So most of the differentiation in terms of the slowdown will come from the external side,” said Richard Grieveson, deputy director of WIIW.

In Poland, which has a far bigger domestic market than either Hungary or Slovakia, the recession is likely to be less severe — WIIW is forecasting a 4 per cent decline. But companies that do business with Germany are still looking nervously at their western neighbour.

“I think it will definitely affect us in 2020 and probably also 2021. But I hope it won’t be as deep as we think today,” said Marek Gorski, chairman of the supervisory board of Ergis, a plastics converter from Poland, whose German revenues have dropped 20 per cent year on year in the last three months.

“In the last 30 years Germany has become the biggest export partner for many sectors, not just ours. So if something negative happens in Germany, of course we will feel it,” he added.

In the medium term however, the picture is brighter. High-frequency indicators suggest German business activity has begun to improve, with sectors such as construction showing signs of life.

The country has also unveiled a huge stimulus package — worth 35 per cent of gross domestic product according to estimates from the IMF and think-tank Bruegel — whose knock-on effects should also eventually filter through to the central European economies linked into its supply chains.

“There’s huge support from the fiscal policy side and even though they can’t really do much about the second quarter . . . we should see an improvement in the next two quarters,” said Ms Muchova. “The fiscal spending can really help them get a V-shaped recovery.”

In the longer term, there could be other benefits of central Europe’s ties with Germany. Many German companies have seen their global supply chains disrupted by the pandemic, and Mr Grieveson said it was possible that this experience could lead them to bring some production back closer to home.

“I think the calculations have surely changed on this . . . If you say that companies feel more exposed in terms of very extended supply chains, maybe proximity becomes more important, and then you could make the case that this would benefit CEE,” said Mr Grieveson. 

“I think we will see this. But the question is how far it goes, whether it is just incremental, or a game-changer.”