US debt - stuck in a vicious cycle
On Tuesday the European Central Bank released their Consumer Expectations Survey for April. This is a relatively new survey the ECB has been publishing since 2020 which covers a relatively wide range of topics in the six largest eurozone economies (Germany, France, Italy, Spain, the Netherlands and Belgium). Given that inflation is currently the most important topic, most analysts have focussed on this section of the publication but it is worth noting that the survey also contains information about consumer expectations on the labour market, growth, income and others.
The category “Inflation expectations 12 months from now” fell sharply from 6.3% in March to 5.3% in April, one of the largest downward moves in the survey’s short history. Inflation expectations in 3 years’ time also fell from 4.3% to 3.8% in April. Although March’s numbers moved higher compared to February’s, the decline in April more than offset March’s increase and therefore leaves both the forward looking inflation expectation numbers at levels not seen since before the Russian invasion of Ukraine. On the one hand, the ECB will be pleased to see expectations normalising in line with a decline in the headline inflation number (at 6.1% is well below the peak of October 2022 at 10.6%), but on the other hand, expectations remain well above the ECB’s target of 2% which highlights that the inflation battle is still ongoing.
Regarding labour markets, the expected unemployment rate in 12 months’ time declined and the “expected probability of losing your job in the next three months” continues to move down. Consumer forecasts therefore are for labour markets to remain tight. This is also reflected in expectations for future income with just over 40% of answers calling for a higher number in the future while, perhaps surprisingly, about 17% expect their net income to go down in the next 12 months. The resulting aggregated expectation for net income increases is just over 1% for the next 12 months which does not look particularly high. Economic growth expectations have improved steadily since last October when close to 50% of those surveyed expected the economy to shrink in the next 12 months while only 20% thought the economy would grow. In April’s survey the pessimists dropped from 50% to 30% while the optimists increased from 20% to 30%. Those who expect no growth also increased from 30% to 40%. Finally, regarding mortgage rates and access to credit the overwhelming expectation is for mortgage rates to increase in the future while an increasing majority of people believe that obtaining credit in the future will be more difficult than it is today.
In conclusion, although the ECB will without a doubt be worried that inflation expectations are still well above their target, we do think that there is growing evidence that monetary policy is actually working its way through the real economy. At the same time energy crisis fears receding have translated into a better economic outlook (from quite bearish levels). Lending standards are expected to tighten and inflation is expected to continue to move slowly but surely downwards from current levels. We tend to think that these numbers are consistent with a softish landing where growth is well below trend but not catastrophically negative. Consumer expectations are important as this is a key element for sentiment which in turn is a key driver of market momentum. Given where yields are in fixed income we think this points to a decent environment where the main contributor to total returns will be to “clip your coupon".