ZEW Expectations Are Mixed But Eco-conditions Still Weak

Assessments and expectations This ZEW survey for January shows mixed results. The economic situations in the euro area, Germany, and the United States, as currently perceived, improved month-to-month while expectations in the U.S. were essentially unchanged and economic expectations for Germany deteriorated. The U.S. had the largest increase in the assessment of the current economic situation. The U.S. diffusion reading rose by 9.1 points, the German situation improved by 2.7, points and in the euro area it improved by 1.2 points.

Inflation expectations Inflation expectations rose in all three areas with the euro area seeing expectations rise by 9.1 points, Germany is seeing an increase of 9.7 points, and the U.S. experiencing an increase of 11.9 points. Given that, economic reports have been somewhat uneven, as you can see the assessment of the current situation has nonetheless improved. Along with that, inflation expectations are beginning to rise more or less across the board. Inflation is generally already above levels that central banks are targeting.

Interest rates- short-term expectations Short-term rate expectations rose in the euro area by 12.5 diffusion points and by a whopping 32.6 diffusion points in the United States. With the election of Trump and expectations that there will be tariffs imposed, and tax cuts extended, and pro-growth policies implemented, there is a decided turn to the expectation for higher inflation and for that to create knock on effects for higher short-term interest rates. At the last policy meeting, the Federal Reserve cut its policy rate; the Federal Reserve is still looking for rate cuts sometime later in the year even though it's not looking to get back down to its inflation target this year, creating a somewhat strange perspective on Fed policy. Policy continues its inflation overshoot; yet, it continues to cut interest rates. I suspect we're on the cusp of seeing that policy change, but it has not changed yet. Here we see the ZEW experts seem to be on board for that policy undergoing some substantial changes in the months ahead.

Long-term rate expectations Long-term rate expectations declined in Germany and in the U.S. and despite the outlook for somewhat higher inflation the outlook for higher short-term interest rates may be enough to mollify expectations on longer term rates and also may be a vote of confidence that central banks will do the right thing when inflation rises by raising short-term rates enough. This survey seems to conform the expectation to contain more distant inflation pressures and allow long-term rates to hold in.

Stock markets That view would be consistent with the stock market assessments that are lower in all three areas. In the euro area, the stock market assessment falls by 5.5 diffusion points; in Germany, it falls by 12.7 diffusion points; in the U.S., it falls by 1.8 diffusion points. That means that the ZEW financial experts are looking for stock market cap performance to back off despite better current economic conditions lowered expectations for Germany but not for the U.S. and in the midst of this expectation for higher inflation and substantially higher short-term interest rates as well. It's an interesting changing view from the ZEW experts and it paints a picture of the future that seems to be increasingly likely.

Queue standings U.S. queue standings- The table also includes the queue standings for the various measures in the top part of the table. There we see only the U.S. has queue standings for some measures that are above 50% placing them above their longer-term medians (above 50% standings). Those are for the economic situation, for economic expectations and for stock market expectations. U.S. inflation expectations, however, are getting higher at 43.8%, closing in on their historic median, while short-term rate expectations are still relatively low at 13.2% and the level of long-term expectations in the U.S. is at 17.3% also relatively low.

German queue standings- Germany has an economic situation at its the 4.9 percentile standing - extremely weak. Expectations are better with the 35.6 percentile standing with inflation at the 22.7 percentile standing. The euro area short-term rate expectations (EC) are at 5.8% and the German long-term rate expectation is at 8.2%; both of those are low. The expectation for the German stock market is extremely poor with the 1.9 percentile standing.

The euro area queue standings- Compared to Germany, the euro area has a 24.9 percentile standing for the current situation. Inflation expectations are at a 20.6 percentile standing, with short-term rate expectations at a 5.8 percentile standing and stock market expectations in the eurozone around 8% still quite low.

Summing up Economic conditions continue to favor the United States in terms of current performance and expectations; along with that, U.S. inflation is expected to be higher as are U.S. interest rates compared to their historic norms. The U.S. stock market also suspected to outperform and to have above average results – yet, these are clearly still times where there's a great deal of stress. The German economy is under a great deal of pressure and the euro area is not far behind. Germany faces difficult times and political pressures internally. There are political changes going on across the spectrum with the most recent focus being on the U.S. with Donald Trump just having taken the oath of office and beginning to make significant policy changes immediately. We are likely to see further shifting in expectations as we get a chance to see what the Trump administration is going to do and as markets begin to handicap the effect they expect from those actions.