A Close Look At Where Germany’s Current-Account Surplus Is Reinvested

The German current account surplus reached a record €270 billion in 2016, equivalent to 8.6% of the country’s GDP

Germany is a special case within the eurozone, the only country where output exceeded its potential level in 2016, according to OECD estimates. This suggests that the economy is operating above full capacity and is running the risk of an acceleration in inflation. By contrast, demand in other countries of the European monetary union is still slowly recovering, and some economies are operating with large spare capacity. Last year, output gaps (the difference between actual and potential output) ranged from -13% of potential output in Greece, -5.2% in Spain, -2.5% in France, and -1.5% in the Netherlands, according to the OECD.

High competitiveness in the manufacturing sector and a modest investment ratio
The German economy rebounded quickly after the global financial crisis partly thanks to its highly competitive manufacturing sector. However, business investment has been only slowly recovering, with lower capital spending than in other eurozone countries. Among the region’s major economies, only Italy has a lower ratio of nonresidential investment to GDP than Germany. These two trends–high competitiveness in the manufacturing sector and a modest investment ratio–have generated Germany’s very large current account surplus.
In 2016, the German current account surplus reached a record of €270 billion, equivalent to 8.6% of the country’s GDP and the largest in the world. The current account surplus has been widening rapidly since 2000 on the back of strong exports of goods. Until 2009, Germany’s surplus relied heavily on the eurozone, then started to decline because of weaker demand in the region. After 2009, the geographic rebalancing of the country’s surplus has tilted primarily toward the U.S., the U.K., and emerging markets, excluding China. Vis à vis the eurozone, the downward shift was particularly strong between 2009 and 2014. Since then, the surplus with the rest of the eurozone has increased again because of the positive effects of lower oil prices on the import side and the depreciation of the euro on the export side.
What explains the current account surplus is remarkably high levels of savings in Germany’s private and public sectors, compared to their investments. Indeed, the saving-investment balance in the corporate and government sectors has reversed (see chart 1). The nonfinancial corporate sector is running a large savings position, at 3.6% of GDP in 2016, reflecting subdued growth in nonresidential investment, which has not kept pace with higher profits. Despite the surge in refugee-related spending, public-sector savings increased to 0.8% of GDP in 2016, reaching their highest levels since 2000. An oil price-related windfall and strong real wage increases enabled high savings for the household sector, reaching 4.9% of GDP.

A net exporter of capital to the rest of the world
Germany’s large current account surplus is mirrored by a large financial account deficit, as the economy is a net exporter of capital to the rest of the world. In 2016, Germany recorded net capital exports of €231 billion. It invested €383 billion abroad while foreign investors invested only €152 billion in Germany. The financial account balance has hovered at heights of more than €200 billion since 2013. This reflects relatively large amounts of domestic capital flows abroad but very weak foreign capital flows into Germany (see chart 2).

Indeed, net portfolio outflows soared to a record €111 billion over the past year after a €75 billion securities withdrawal by foreign investors in 2015 (see chart 3). The European Central Bank’s very accommodative monetary policy and large asset purchase program has foreign investors searching for yield. They’re selling their German securities to buy riskier assets; previously nonresident investors were acquiring German securities. Indeed, this was the aim of the ECB’s portfolio-rebalancing policy, which has to led a significant depreciation of the euro since late 2014.
The yield for the 10-year government bond in Germany has collapsed from 1.7% at the start of 2014 to 0.3% currently, with a very large percentage of German Bunds in negative territory in 2016.

Where Is the Large Current Account Surplus Invested?
An offloading of investment in countries on the eurozone’s periphery German investors continued to increase their holdings of foreign assets by €130 billion to about €380 billion in 2016. In particular, they acquired €96 billion of foreign securities, €70 billion of foreign direct investment (FDI), and €180 billion of other investment (comprising loans, trade credit, and bank deposits).
Since 2000, however, domestic capital flows invested abroad have declined and the geographical destination of these investments has meaningfully shifted. Indeed, cumulative portfolio and other investment flows decreased by 17% and 72%, respectively, between 2000-2007 and 2009-2016.
What’s more, while a large part of excess German savings was invested in the eurozone’s periphery between 2000 and 2007, German investment in the area has plummeted on the heels of the global financial crisis and following the 2012 European sovereign debt crisis. In particular, German investors have been offloading their portfolio investments and other investments in periphery countries. Between 2008 and 2016 for instance, German investors withdrew €67 billion of securities out of Greece, Portugal, Spain, and Italy, as well as €29 billion of other investments (see chart 4). German investors had acquired more than €220 billion of securities and €140 billion of other investments between 2000 and 2007.

By contrast, German investors extended their stocks of assets primarily in other developed countries, namely core eurozone countries and other developed European economies such as Switzerland, Denmark, or Sweden. Core eurozone countries received more than 60% of total flows on average between 2008 and 2016 from 40% between 2000 and 2008. Meanwhile, other developed economies excluding the U.S. and the U.K. increased their share dramatically to 20% from 4% over the same period of time. However, inside the core of the eurozone, Belgium and Luxembourg are specific cases. They received 40% of total German portfolio flows to the rest of the world between 2008 and 2016. These capital flows were nevertheless probably rechanneled to other countries through investment funds issued there.
Interestingly, the share of domestic portfolio flows to the U.K. to total domestic flows has dramatically declined over these two periods, falling from 14% to 3%, probably partly reflecting uncertainties around the Brexit vote. The U.S. as a destination of portfolio investments has also experienced a similar downward trend to 11% from 14%. By contrast, emerging countries have doubled their shares to 6% from 3%.

However, contrary to portfolio and other investments, the amount of German FDI has continued to increase following the global financial crisis, despite weaker economic growth and heightened uncertainties. Noticeably, German investors increased direct investments in periphery countries and more broadly across the eurozone. In 2016, around 40% of German outbound direct investment flowed to the monetary union. First, these countries constitute important sales markets for German products. Second, the development and production processes within the eurozone are often closely interlinked across borders. FDI toward China and other emerging economies have also risen, probably to access markets through investing in a foreign site of production. By contrast, German investors reduced their flows of investments in the U.S. and in the U.K. Political and currency risks could be two reasons for this shift.

Jean-Michel Six – Chief Economist, Europe – Standard & Poor’s
Sophie Tahiri – Economist – Standard & Poor’s