FRANKFURT (MNI) – Austerity measures aimed at combating the
sovereign debt crisis have further bleakened economic sentiment in the
Eurozone, as rising money market tensions add to concerns.

German economic expectations deteriorated in May, according to the
ZEW’s survey, almost reversing the gain in April. Investors became even
more pessimistic after the announcement on May 10 of a E750 billion
European Union rescue plan and new ECB interventions. The 90 responses
received before May 10 gave an expectations index of 51.1, while the 185
later responses gave 43.2.

“There is a clear assessment that the EU rescue fund … will mean
a reduction in demand now and in the coming years, weighing on
medium-term economic growth in Europe,” an ZEW expert explained.

While “there is a strong expectation of a very weak euro against
all other major currencies,” the declining value of the euro will only
partially offset weakening domestic demand, ZEW predicted.

The depreciation of the euro — a trend surveyed investors expect
to continue in the months ahead — no doubt boosted Eurozone exports in
March. Seasonally adjusted exports jumped 7.5% on the month after an
increase of 3.4% in February, Eurostat reported Tuesday.

The statistics office also confirmed Tuesday an annual HICP
inflation rate of 1.5% in April. Core inflation slowed by 0.2 point to
0.7%, confirming the absence of inflationary pressures. The ZEW survey
showed that inflation expectations also remain moderate and were little
changed from last month.

Results of Tuesday’s money market operations — including the first
liquidity absorbing operation aimed at sterilizing government bond
purchases — highlighted interbank market tensions.

On the one hand, the central bank allotted almost E105 billion in
its weekly MRO at a high rate of 1% to 81 banks. On the other, the ECB
received bids worth E165 billion at an average rate of 0.28% from 223
banks willing to accept lower interest than they would receive on the
market.

This shows that some banks are flooded with liquidity, not knowing
what to do with it, while others are starved for liquidity. The lack of
exchange between two groups highlights ongoing market tension and the
ECB’s essential role as intermediary.

Deteriorating economic prospects coupled with low inflation
prospects may account for the ongoing rollback in analysts’ expectations
for ECB interest rates as well as those of investors polled in the ZEW
survey. Given these market tensions, the ECB’s exit from non-standard
measures is also likely to be put on hold in the months ahead.

–Frankfurt newsroom +49 69 72 01 42; e-mail: jtreeck@marketnews.com

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