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Economy in Brief

EMU Inflation Picture Puts ECB on Hot/Cold Seat
by Robert Brusca  March 16, 2011

EMU inflation's trend is clear - The chart shows the inflation rate for EMU and for the largest three economies. The trend is clear. For the moment the Yr/Yr pace of EMU inflation is leading this pack, but German inflation is closing the gap as it is up at a 3.3% pace over three months while the EMU inflation rate is up at a 2.9% pace.

EMU Obsession: Inflation, overall, headline, total, all-items-EMU-inflation is the measure that the ECB obsesses over... exclusively, unfortunately.

Danger Will Robinson, danger! Danger! -- And overall EMU inflation is over the limit as the ECB tries to contain headline inflation below the 2% mark as the Yr/Yr gain is up by 2.4%; that's an excessive pace. Over six-months there is more acceleration as the HICP is up at a 2.9% pace. But over three-months inflation, while still excessive at 2.8%, no longer is the HICP accelerating.

Dr. Jekyll and Mr. Hyde: never the twain shall meet? Meanwhile back in the core (the HICP less food, energy and alcohol) EMU inflation is playing Dr Jekyll to the headline inflation rate's Mr. Hyde.

Core inflation snoozes- Core inflation is about as tranquil as it gets. It is up at a 1.2% pace over 12-months, at a 0.9% pace over 6-months and at a 0.4% pace over 3-months. Not only is the core keeping its head down even more than a subterranean creature playing a game of whack-a-mole, but the rate is decelerating. Core inflation is decelerating! That is some 'knock-on' effect form headline inflation, isn't it?

Some inflation numbers...While we know what it is that the ECB 'targets' (headline inflation) we also know that it pursues this target over a longer period of time and does not view any 12-month period with inflation over 2% as 'failure'. It is merely part of the process. Still, the ECB does view those episodes as periods of discomfort and it is not willing to tolerate many of them in a row. The HICP is above the 2% mark now for three-months running. Its Yr/Yr pace is not yet above 2.5%. Meanwhile, the Yr/Yr core rate has been in a range of 1.1% to 1.2% for six-months running. It has not been above 2% since December of 2008. If we go back to August of 2007 when the core rate was last at 2%, before it ran above it then back below in the precession-recession boom/bust cycle, core inflation has run at a compounded pace of 1.5% for those 42 months.

Numbers for the headline- If we calculate headline inflation on the same period we find that it is up at a 1.8% pace since August 2007, which is a base period when it too was under the EMU-imposed speed limit of 2%. That rate then accelerated then decelerated and now has accelerated again. So where are we on this roller coaster? We are still below the preferred speed limit.

Inflation gauntlet: While ECB-head Trichet seems to have thrown down the gauntlet on inflation the real question is whether the ECB council will really pick it up and accept the challenge. It's not a question of what the ECB head is prepared to say but what the bank is prepared to do.

Is inflation really even over target? Given the way that the ECB views its own mandate, is inflation really even overshooting? The period of the undershoot has been so long that the overshoot that is in progress does not compensate enough to boost inflation back to a ceiling derived from three and three-quarters years of experience (and longer, too). Over the longer period inflation is still contained.

Is inflation contagious or is it sequestered? Moreover, beyond the calculations on inflation which can be manipulated by using different periods, what is the real risk? We know that oil and food prices have special issues and are boosting headline inflation-everywhere. With austerity dogging members of the EMU community is it really time to fight inflation first? With the euro itself so firm is the burgeoning inflation risk really a present danger or is the core protected from inflation's spread by what still seems to be substantial slack within the Euro-Area?

Enlightened self-interest from the ECB? - In the end the ECB must decide the case by looking forward and not by looking back. But in looking back we see no evidence that the ECB is losing any battle with inflation. It is not even losing a skirmish since there is nothing a central bank can do to control current period inflation especially when commodity prices show explosive bursts. The ECB is a single mandate central bank- it does not have to worry about growth. But it would still be foolish to ignore it. Many Zone economies are still really hurting and show little prospect of passing on inflation from the 'headline.' Spain, for example, has its core inflation rate falling at a 1.1% pace in the past three-months even as its 'headline' rate is up at a 3% pace. Is that an inflation dynamic? Portugal has just had its debt downgraded. There we see the real risk of excessive austerity: call it backlash. The opposition party in Portugal is lobbying against the continuation of austerity. If the ECB does not implement an enlightened policy of monetary control it could find that the fiscal side of things which has been under reform to reinforce prudence could undergo a backtracking and that would put the ECB and its members at real loggerheads and at cross purposes.

Old saying conundrum - In terms of old sayings the ECB is somewhere between two famous ones: (1) the risk of sparing the rod and spoiling the child and, (2) the risk of beating a dead (or dying) horse.

Trends in HICP
  % Mo/Mo % SAAR
  Feb-11 Jan-11 Dec-10 3-Mo 6-Mo 12-Mo Yr Ago
EMU 0.2% 0.1% 0.4% 2.9% 3.0% 2.4% 0.8%
  Core 0.1% -0.1% 0.1% 0.4% 0.9% 1.2% 0.8%
Goods 0.3% -1.0% 0.5% -0.7% 3.5% 3.0% 0.5%
Services 0.5% -0.3% 0.8% 4.1% 0.0% 1.6% 1.3%
HICP
Germany 0.3% 0.1% 0.5% 3.3% 3.0% 2.2% 0.4%
France 0.2% 0.1% 0.4% 2.5% 2.5% 1.8% 1.4%
Italy 0.3% -0.1% 0.4% 2.2% 2.4% 2.1% 1.2%
Spain 0.3% -0.1% 0.5% 3.0% 3.9% 3.4% 0.4%
Core:xFE&A
Germany 0.0% 0.1% 0.1% 0.7% 0.9% 0.9% 0.7%
France 0.1% -0.1% 0.1% 0.2% 0.6% 0.6% 1.1%
Italy 0.2% -0.3% 0.1% 0.0% 0.9% 1.4% 1.3%
Spain 0.1% -0.7% 0.3% -1.1% 0.7% 1.6% -0.4%
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