What are the economic signals from uncertainty measures?

Prepared by Malin Andersson, Alina Bobasu and Roberto A. De Santis

While uncertainty plays a prominent role in many economic decisions, it is not directly measurable, making its precise impact difficult to gauge. In times of high uncertainty, households and firms may delay or cancel spending and investment plans, which in turn dampens economic activity.^[1] Given that uncertainty is not directly observable, this box assesses recent signals from different proxies, categorising them as those that are directly associated with the short-term economic situation and those that reflect longer-term policy issues. We also examine the implications of these measures for key macroeconomic variables.

Uncertainty about the short-term economic situation is usually tracked using a mix of statistical, survey-based and financial indicators. One key measure for the euro area is the macroeconomic uncertainty index developed by Jurado et al., which defines uncertainty as the volatility of the forecast errors three months ahead for a wide range of economic indicators.^[2] Another proxy is the forecast disagreement from Consensus Economics, which captures the dispersion in predictions one year ahead for real GDP, industrial production, private consumption and private investment growth, as well as HICP inflation and long-term interest rates. Additionally, the survey-based economic uncertainty measure of the European Commission reflects the difficulty of business managers and consumers to make predictions about their business situation and household finances. Finally, the Composite Indicator of Systemic Stress (CISS) is a financial stress indicator developed by the ECB, constructed using a variety of market-based financial variables from multiple segments of the financial system.

There are also uncertainty measures related to longer-term policy issues. One such measure is the news-based Economic Policy Uncertainty index for the euro area, which tracks the frequency with which specific words related to economic policy uncertainty are mentioned in newspaper articles. Three other text-based indicators show uncertainty surrounding geopolitics, trade and climate policy.^[3]

Measures that capture concerns about the short-term economic situation currently display relatively low levels of uncertainty, while those related to longer-term policies are showing higher levels (Chart A). While all these indicators peaked during the Russian invasion of Ukraine, measures related to the near-term outlook have since returned to their historical averages.^[4] By contrast, most policy-related measures of uncertainty are still significantly above their historical means, reflecting ongoing political polarisation, prospective regulation and the global energy transition.^[5]

Moreover, a risk index derived from earnings calls suggests that risk perceptions for many of the uncertainties mentioned above have declined from the peaks reached in the spring of 2022 but remain above pre-pandemic levels (Chart B).^[6] The index measures the percentage of a number of specific risks as a share of all risks mentioned in earnings calls among listed euro area firms.^[7] While the risks cannot be exactly mapped to the categories of uncertainty shown above, this risk index corroborates the finding that risk perceptions for several perceived uncertainties have fallen back substantially from the peaks seen in the spring of 2022. Meanwhile, concerns about geopolitical tensions and the climate remain elevated.

Increases in uncertainty are typically associated with lower real GDP and with a stronger adverse impact on business investment than on consumption (Chart C). To investigate the implications of rising uncertainty, Bayesian vector autoregression (BVAR) models are estimated over the period from the first quarter of 1999 to the second quarter of 2024.^[8] The models incorporate real GDP, private consumption and business investment, the GDP deflator and one uncertainty (risk) measure at a time.^[9] The results suggest that for all measures – with the exception of geopolitical risk – rises in uncertainty are associated with a decline in real GDP, private consumption and business investment, with business investment declining significantly more than consumption.^[10]

Uncertainty about the short-term economic situation does not appear to have greatly affected ongoing economic activity so far; however, that surrounding longer-term policy issues is likely to remain relevant. While uncertainty derived from short-term economic indicators has been contained recently, compared with previous peak periods, economic policy uncertainty is likely to remain elevated, reflecting the persistent, evolving nature of domestic policy issues. Accordingly, uncertainty surrounding policy issues is expected to continue to weigh on economic activity, particularly on business investment, in the coming quarters.