KfW-ifo SME Barometer: SME business confidence improves, but concern over decline is growing

• Business situation improved in May, but expectations were down
• Mood brightened among large enterprises, especially manufacturers
• Uncertainty remains high, clouding the economic outlook

The slight improvement in sentiment among SMEs continued in May for the second consecutive month, after business confidence collapsed in March because of Russia’s invasion of Ukraine. It now rose 1.2 points to -5.9 balance points, well below the pre-war level, as illustrated by the KfW-ifo SME Barometer. This time only the situation assessments improved, but by a noteworthy 3.6 points, climbing to 11.0 balance points. The last time SMEs rated their business situation more favourably was before the spread of the Omicron wave in October last year. The already very pessimistic business expectations, by contrast, fell by 0.7 points to -21.0 balance points. The current uncertainty simply leaves no room for any greater optimism. The war is driving up prices, leading to material shortages and reducing energy security, while in China even minor coronavirus outbreaks trigger strict lockdowns and put added strain on global supply chains.

Small and medium-sized construction firms reported the strongest improvement in business confidence in May (+4.7 points to -8.2 balance points), after sentiment there dropped sharply in April. Construction demand currently faces significant problems on the supply side such as material shortages, rapidly rising costs of energy and building materials and a shortage of skilled workers. Higher interest rates are raising the costs of already expensive new building projects as construction demand generally remains high. Construction firms are currently on a rollercoaster of emotions, as illustrated by the severe monthly mood swings. Business expectations in the services sector improved by 4.4 points to -1.4 balance points, just barely below the zero line which stands for the long-term average. That makes services the most optimistic sector among all SMEs at this time. In retail and wholesale, however, the war has ruined the broad recovery that was hoped for after the coronavirus restrictions were lifted, creating uncertainty and reducing real purchasing power by pushing energy prices and the cost of living sharply upward. After the immediate slump that resulted from the outbreak of the war in March, sentiment hardly improved there and even fell again slightly in May (retail: -0.1 to -4.6 balance points; wholesale: -1.7 points to -7.1 balance points). Business sentiment among SME manufacturers again recovered only little after plunging in March (+0.7 points to -9.5 balance points).

The nearly unchanged low confidence level of SME manufacturers is in striking contrast to the strong rise in confidence among large industrial firms. Business sentiment there rose by more than 2 1/2 times a typical monthly variation: +9.6 points to 1.1 balance points. That means the confidence level there has basically returned to the historical average, even though it is still much lower than it was just before the outbreak of the war in February (15.6 balance points). Given the many current uncertainties, it remains to be seen whether that was more than a flash in the pan. Sentiment also improved in the large enterprises of the other major sectors, although not as much as in large manufacturing. Overall, confidence levels of large enterprises were slightly higher than among SMEs in May, rising by 3.7 points to -11.1 balance points, but still remained well below the comparison value for the SME sector. The situation assessments of large enterprises were only slightly positive (+2.3 points to 3.3 balance points) and, despite improving noticeably, their expectations remained more pessimistic than those of small and medium-sized enterprises (+4.7 points to -23.7 balance points).

“Despite all the burdens posed by the war and the pandemic, business is still relatively good, but companies are very concerned about a decline”, summarised Dr Fritzi Köhler-Geib, Chief Economist of KfW. “Never before was the discrepancy so high – among both SMEs and large enterprises – between the continuing positive assessments of the current business situation and the very gloomy business outlook since the outbreak of the war. That shows the abyss into which enterprises are looking. How deep they will really fall depends on how long the spiral of sanctions and escalation will continue to turn, but also on the duration of the war. What is particularly relevant for the economy is whether gas imports from Russia will stop. Two fundamentally opposing forces are currently acting on the business cycle: While the dampening effects of the pandemic are waning, Russia’s war of aggression is prolonging and exacerbating global supply chain problems, sending energy costs soaring and weighing on purchasing power. Consumption will therefore pick up in the summer half-year, but likely at a slow pace.” In the winter half of 2022/2023 the economy will even almost stagnate. “Assuming a stop of Russian gas supplies can be avoided, I assume that the German economy can still grow by 1.6% in 2022”, added Köhler-Geib.

The current KfW-ifo SME Barometer can be downloaded from
www.kfw.de/mittelstandsbarometer