Economy in Brief

The current macroeconomic situation The assessments of the ZEW experts on current macroeconomic conditions show conditions moving in opposite directions in the United States versus Germany and Europe. In February, U.S. conditions are improving as the economic situation moves up sharply to a reading of 34.0 from the previous reading of 15.3. For Germany, conditions worsen from a January rating of -77.3 to a reading of -81.7 in February. For the euro area, conditions do improve slightly, moving from -59.3 in January to -53.4 in February. However, the chart shows that broadly, conditions in the U.S. are moving up sharply as conditions in Germany and Europe have been deteriorating even with the euro area making a small move toward better conditions in February.

Expectations Expectations in Germany, however, improved slightly, moving up to 19.9 in February from 15.2 in January. In the U.S., there's a small improvement in expectations from -8.3 in January to -6.1 in February.

Rankings for the diffusion metrics In terms of rankings, the queue positioning of the U.S. and Germany on these two important macroeconomic statistics are quite different. The U.S. has an economic situation that ranks in its 51st percentile, above its historic median. Germany’s queue percentile reading is in its 9.6 percentile and the euro area reading is in its 30th percentile for the economic situation. In terms of expectations, the German expectation is higher at its 49th percentile, near its median standing, while U.S. expectations stand at their 40th percentile, still below their median. U.S. economic performance may be strong and trending higher, but expectations are not hitched to that rising star.

Inflation is subdued Inflation expectations are still low everywhere; they weaken in the euro area and in Germany. Expectations for inflation rise slightly in the U.S. to -58.6 in February from -64.6 in January. However, these are diffusion indexes that, in these ranges, don't have a lot of meaning, since the U.S. ranking for inflation expectations is in its lower 5-percentile, for Germany it's in the lower 9.6 percentile, and for the euro area expectations are in their lower 6-percentile. All these are very weak readings for inflation expectations. The ZEW experts continue to believe inflation is under control.

Interest rates For interest rates the readings for both the euro area and the U.S. weakened as in both areas the ZEW experts are looking for easier monetary policy. The readings for long-term interest rates also eased to lower levels as well in the U.S. and Germany. And for the U.S. and the euro area and monetary policy as well as for the U.S. and Germany for longer term interest rates, all the rankings run in their lower 10-percentile, continuing the outlook for low rates.

In this week's letter, we shift our focus to Japan, covering topics such as monetary policy, inflation, wages, the property market, and recent movements in asset prices. We first note recent investors’ views on the forthcoming actions of the Bank of Japan (BoJ), taking into account recent communications and inflation trends. We then delve into inflation disparities within the regions of Japan. We next examine Japan’s residential property market, and acknowledge the recent acceleration in sales prices and rental rates. We then discuss developments relating to the upcoming spring wage negotiations, highlighting key announcements and commitments made so far. Finally, we examine the latest trends in Japanese equities and the yen, observing the ongoing rally in stocks amidst a renewed decline in the currency's value.

Monetary policy The Bank of Japan (BoJ) left its policy settings unchanged in January, as widely expected. The central bank also revealed updated economic forecasts, indicating expectations of slightly firmer GDP growth and lower CPI inflation (excluding fresh food) for the fiscal year ahead. Perhaps more interestingly, the BoJ noted that the likelihood of realizing its price stability outlook has gradually risen. Some analysts interpreted the remarks as hints at imminent policy normalization, with a few now seeing BoJ rate hikes commencing from as early as March. Others, however, remain skeptical of substantive BoJ policy rate hikes soon, noting factors such as the lingering economic damage from Japan’s recent earthquakes. With that said, recent central bank messaging has lately hinted at possible tightening moves via the ending of risky asset purchases, but leaned against rapid interest rate hikes.

Portugal’s inflation data trends paint a mixed picture if looked at strictly. However, looked at more broadly, it is clear that the minor inflation backtracking is the exception while inflation falling and behaving is the rule.

Portugal’s HICP index in January rose by 0.5% month-to-month after being flat in December and falling 0.3% in November. Portugal’s national CPI also rose relatively sharply on the month, gaining 0.6% month-to-month in January after rising by 0.1% in December and being flat in November. The core rate in the national CPI rose by just 0.2% in January, the same as December, compared to a November performance that was flat month-to-month.

Inflation trends The overall HICP measure shows inflation decelerating despite the month’s jump. Twelve-month inflation is up 2.6%, over six months it rises by 1.9%, and over three months the inflation rate is at a 1.0% rate. The national CPI is more equivocal, rising by 2.3% over 12 months, accelerating to a 2.9% pace over six months, and settling at a 2.8% annual rate over three months. Despite that slight acceleration and stickiness for the headline, the core for the national CPI shows clear deceleration from a 2.4% gain over 12 months, to 1.7% at annual rate over six months, to a 1.4% annual rate over three months. On balance, inflation trends in Portugal seem to be in good shape and not only are the three-month and six-month inflation rates homing in on the ECB's target, but the 12-month inflation rates also are only a stone’s throw from the target set for the euro zone established by the European Central Bank.

Inflation acceleration/deceleration Inflation diffusion in January shows month-to-month inflation across categories accelerating in half of them, the same as in December. Despite the weaker November headline performance, inflation accelerated in 58% of the categories in November.

Looking at inflation acceleration trends sequentially on broader periods, we have a much more satisfying result. Over 12 months inflation accelerates in 25% of the categories, while over six months inflation accelerates in 41.7% of the categories. That's a step up in the proportion accelerating but still less than 50% of them. And over three months, inflation is back to accelerating in only 25% of the categories. All of this is descriptive of an inflation rate that is coming to heel and doing so consistently.

Price declines Looking at the 12 categories in the national CPI rate in January, six of them showed declines in prices month-to-month; that compares to only two that declined month-to-month in December and seven that showed month-to-month declines in November.

The broader sequential data show prices declining over three months in six of the categories; over six months, prices decline in four categories; over 12 months prices decline in only two categories.

It's not that surprising to see fewer price declines over 12 months than over three months because the shorter-term data are intrinsically more volatile. However, there's also a powerful sense of trend here in which inflation is behaving and part of that behavior has prices not just decelerating but declining. Over three months there has been a double-digit decline in prices measured at an annual rate for clothing & footwear. There is a decline of 2.7% at an annual rate for household furnishings and a decline of 2% at an annual rate for transportation as well as a 1.9% drop at an annual rate for recreation & culture. Inflation is falling at a 1.6% annual rate for alcoholic beverages & tobacco.

German inflation falls- German inflation fell in January with the HICP headline falling in the month, logging a decline of 0.1% in January after spurting by 0.6% in December. The core HICP wave accelerated to 0.3% in January from 0.2% in December.

German inflation rises- The German domestic CPI inflation measure accelerated to 0.4% in January from a 0% performance in December; the CPI ex-energy rose by 0.3% after rising 0.2% in December.

What really matters in how it’s trending, not its month-to-month gyrations- What you conclude about inflation depends a lot on how you tend to look at it. The year-over-year HICP rose by 3.1% in January, down sharply from its 3.8% pace in December. But then, in November, inflation had been up by only 2.2% so the path for German headline HICP inflation is somewhat jagged. Core inflation that tends to be more stable rose by 3.7% year-over-year in January compared to a 3.7% increase in December. That’s stable, but both of those are down from where inflation had been which is 4% in November, 4.9% in October, and 5.5% in September; that compares to 6.9% in August and a rate of more than 7% in June and July of 2023. Clearly inflation is and has decelerated in the big picture. Core inflation, which does a better job of nailing down the sustainable trend, has flattened out over the last two months. More broadly, a core measure shows German inflation has come down quickly and is hovering in a much lower range than it was in 2023. But at 3.7%, inflation in Germany is still a far cry from the 2% target that the European Central Bank has for the euro area.

Shorter periods show lower HICP inflation- Of course, the German data also show a lot more inflation behaving if we measure inflation over shorter periods. For example, the HICP inflation rate expands by 3.1% over 12 months, at a 1.9% annual rate over six months, and at a 2.5% annual rate over three months. The core HICP rises by 3.7% year-over-year, by 2.1% at an annual rate over six months, and then takes up to a 2.3% annual rate over three months. Inflation is not sequentially deteriorating, but it clearly is on its way lower as the three-month inflation rates for the headline and the core are both markedly below their year-over-year pace. That's a strong score for the concept of inflation unwinding.

Domestic prices are even better- The domestic CPI, the headline shows clearer deceleration from 2.9% over 12 months, to a 2.2% annual rate over six months, to a 1.4% annual rate over three months. The CPI excluding energy on the domestic measure rises 3.4% over 12 months, at a 2.8% annual rate over six months, then steps down to a 2.5% annual rate over three months. The domestic gauge shows inflation much more clearly decelerating and the deceleration takes the inflation pace to a much lower and more benign rate. The headline on a three-month basis is already below the target for the ECB and the six-month pace for inflation is within a stone’s throw of it while for the CPI excluding energy the 2% target is getting in range.

Monthly breadth- Diffusion indexes for inflation measure the breadth of inflation: is inflation accelerating (breadth>50%), or decelerating (diffusion<50%). In January and in December inflation diffusion is over 63%, implying that inflation is accelerating in more categories than it's decelerating. However, the January and December results come after November; in November inflation did not accelerate in any categories! Diffusion was zero so there was a broad slowdown for inflation in November and then a rebound in December and in January.

Sequential inflation breadth- Sequentially inflation diffusion is better behaved over broader periods. Over 12 months diffusion is 27%, over six months it's 36%, and over three months it's back to 27%. On all these horizons, 12-month, six-month, and three-month, inflation is clearly decelerating compared to the period before. In the case of these statistics, we compare 12-month inflation to inflation one-year ago; six-month inflation is compared to 12-month inflation; three-month inflation compares to six-month inflation. Note that the deceleration of inflation is made off the domestic report where both headline and core inflation rates are showing sequential inflation falling.