ZEW Overview Sees Stronger Conditions, A Mixed Growth Outlook and Less Inflation Worry

Table ZEW Qualitative Assessment identifies the main trends of the month; colors help to discern general magnitudes of importance. The economic situation is shown to be stronger for the EMU, Germany and the United States in February, compared to January levels. However, Germany has a level of improvement that still leaves it below its historic median (below a rank standing of 50- hence the red color).

Economic expectations are stronger for Germany and weaker for the U.S. where the Federal Reserve is making noises about being much more aggressive than the European Central Bank. However, the ECB has recently changed its tune from no new music in 2022 to perhaps a new note- but not a symphony like the Fed seems to be planning. So the ECB has abandoned its view that inflation - which is excessive- will slowly, organically, dissipate, and all will live happily ever after, while the ECB simply watches from a front row seat.

And expectations for inflation are higher across the board although they all come with values well below their historic medians. In fact, inflation expectations, while higher in each case, are higher by very small amounts that leave those expectations at very low historic standings. The sense of increase is there; as always, we wonder if it is a turning point or just a point of inflection.

Part of the reason for still low inflation expectations is the expected path of short-term rates, a euphemism for what central banks are expected to do. Short-rate expectations are stronger; in fact, are at a very high standing for both the U.S. and the EMU. Yet, long-term rate expectations are split- higher for German and weaker for the U.S. Still, that response is deceptive since both the U.S. and Germany have extremely high standings for their long rate expectations. The mixed changes on the month don’t seem to tell the real story. Part of that story is real since the level of rates in Europe generally is so low that ZEW experts may be espousing the view that even if the Fed hikes rates faster -and faster than in Europe- the impact on U.S. long rates will not be very pronounced.

One thing that the Fed worries about is that if it hikes the Fed funds rate significantly the impact on U.S. long-term rates will be muted. Since U.S. rates are already higher than in Europe, further increases may spur capital flows into dollars to invest in rising U.S. long-term rates and that could cap the Fed’s ability to bring pressure on long rates reducing the efficacy of monetary policy. It certainly complicates the outlook, but that has always been the case. Long-term capital markets are connected, and such pressures are part of what domestic monetary policy must learn to live with. The ZEW experts seem to acknowledge it.

Stock markets have been strong and have been the beneficiaries of interest rates so low that many investors have sought refuge in stocks as the only place to earn a real return on investment. Stock expectations by ZEW experts are mixed with the U.S. and Germany stronger and a weaker response for all of the EMU while Germany and the EMU lag below their historic medians. The U.S. itself is on the edge and barely above its own median.

Table ZEW Assessment by the Numbers shows the numbers behind Table 1 and summarizes average tendencies. Long and short interest rate expectations have the highest standings with inflation at the lowest standings- and those readings are related. The economic situation and expectations for growth are just sort of mid-level, not high enough to be strong, not low enough to be a worry. I’d call ‘firm.’ The outlook for stocks is -on average- below its median. The ZEW experts see changes coming and everything seems to spin on expectations for short rates and their interplay with inflation expectations as well as the structural differences in rate levels between the U.S. and the EMU. It will be interesting to see how the experts’ views change as we get into the period ahead and begin to experience the first rate-hikes in over three years or more.