UPDATE 2-German business sentiment surges to highest in 16 months

Tue Aug 27, 2013 5:42am EDT

* Manufacturers benefit from better export prospects

* Ifo says German economy has shifted up a gear

* Fourth monthly rise is welcome news for Merkel ahead of vote

By Annika Breidthardt

BERLIN, Aug 27 (Reuters) - A pick-up in manufacturing drove German business sentiment to its highest level in 16 months in August, adding to evidence that Europe's largest economy is bouncing back from a brief slowdown.

The Ifo think-tank said on Tuesday its business climate index, based on a monthly survey of some 7,000 firms, rose to a better-than-forecast 107.5 in August, the highest level since April 2012.

That was up from 106.2 in July and came in just below the highest estimate in the Reuters poll of 33 economists of 107.8.

"The German economy moved up a gear," said Ifo economist Kai Carstensen. "Companies are more satisfied with their current business situation. Their optimism regarding future business developments - although slightly cautious - also grew."

The Ifo's fourth consecutive rise will be welcome news for Chancellor Angela Merkel. With growth returning, consumers upbeat, the labour market strong and inflation largely under control, the economy should support her bid for a third term in the election on Sept. 22.

A bastion of strength in the early stages of the euro zone crisis, the German economy shrank at the end of last year and narrowly avoided recession early in 2013.

But it grew at its strongest rate in more than a year in the second quarter, helping the euro zone as a whole out of its 1-1/2 year recession.

Klaus Wohlrabe, another Ifo economist, told Reuters the euro zone recovery was paying off for German firms. Manufacturers expected their exports business to improve and said their current business conditions were "considerably better than last month".

Retailers and construction firms were less upbeat than last month however. Other data also point to a pick-up in the German economy, but have signalled that export expectations remain subdued. Large parts of the euro zone are still in recession.

"We doubt that the recovery will be as rapid (as Ifo suggests)," said Jennifer McKeown at Capital Economics. "Other surveys like the PMI (purchasing managers' index) point to far more modest growth and exports will continue to be held back by weak demand from key markets elsewhere in the euro-zone."

Many economists now believe that the German economy will expand at a faster rate than the government's current forecast of 0.5 percent growth this year, but expect a slight slowdown from the pace in the second quarter.

"Even the export outlook is brightening, despite the emerging market woes, China's slowdown and Japanese competition. Stabilising euro zone and growing U.S. demand, which together account for two-thirds of German goods exports, should offset weaker developments elsewhere," said Christian Schulz of Berenberg Bank.

Corporate results have been a mixed bag. Of Germany's 30 biggest companies, just over a third reported second-quarter financial results that missed analysts' expectations, while fewer than a third beat consensus.

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