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Economy in Brief

EMU HICP Finalizes with the HICP Up 0.2% in September and by 3.5% Y/Y
by Robert Brusca  October 20, 2021

In September, we find inflation firing on nearly all cylinders in Europe...unfortunately. Looking at the headlines, the only exception to this seems to be Italy where in September headline and core inflation both scored negative readings with the Italian headline gauge dropping by 0.1% in September and the core rate dropping by 0.2% month-to-month. However, over three months inflation accelerated everywhere compared to the six-month pace except in the U.K. where inflation cooled to a 3% pace from a 4.8% pace over six months. Core inflation in Germany held at the 3% mark over three months, the same as its pace over six months. Those were the ‘bright spots.’

Then there is the most-watched inflation number, the year-on-year pace. Headline inflation in the EMU is at 3.5% year-over-year, but the core measure is at 1.9%, consistent with the old ECB ceiling pace of just-less-than 2% inflation. With the ECB shooting for 2% inflation on average these days, it is hard to handicap any particular inflation pace which, even if it is above 2%, might be acceptable for averaging reasons. However, year-on-year headline inflation for Germany, Italy, France, and Spain all meet or exceed a rate of 2.7% with German inflation as high as 4.1%. Core inflation is more reassuring in a range of 3.1% (Germany; ex-energy) to 1.1% (Spain) with France and Italy at 1.5% and 1.4%, respectively.

Core inflation results make the hot headlines a bit easier to handle. However, core inflation has accelerated from its 12-month pace of 12-months ago by an amount ranging from 1.8 percentage points in Italy to 0.7 percentage points in France. Inflation is moving up even where its pace seems more tolerable and more consistent with long term ECB targets.

Speaking of shooting for inflation averages…there is plenty of room to have tolerance for some inflation overshooting should the ECB decide to go that route more wholeheartedly. The five-year compounded annual pace for headline inflation in EMU is only 1.5% that’s one half of one percentage point per year ‘in the bank’ for five years running to help offset any future overshoot (2.5 percentage points in future overshooting that this ‘average’ could offset). And I have only chosen a five-year horizon arbitrarily. Core inflation has been even lower growing at a compounded pace of only 1.2% per year for the last five years.

So, while inflation clearly is flaring, this new view of inflation through the lens of (an unspecified period for…) averaging puts central bankers more at ease…potentially. In the EMU we know there is a split on this between the traditional hard-money countries and the soft-money countries, the latter mostly the Mediterranean countries (countries that, by the way, are doing very well on keeping inflation low – better than Germany for example).

But interest rates in the EMU are exceptionally low and the hard-money Northern European countries look to get interest rates back to more normalized levels and have a particular sense of urgency about it with current inflation flaring so badly.

Nonetheless, in the midst of this inflation view standoff at the ECB, Jens Weidmann, President of the Bundesbank and an outspoken anti-inflation figure in the EMU, has announced that he will step down for personal reasons. The ECB is losing one of its best-known and loudest anti-inflation voices.

IMF European department chief Alfred Kammer today said, “We don’t at this stage, expect any inflation spiral in Europe….” he elaborated, “The high inflation which we are seeing right now is really driven by ... an increase in energy prices, and we expect that to fade out during 2022.” Source here.

The question is whether this is new thinking or old thinking. Since the early 1970s, inflation bulges have been initiated by oil price increases. Since then, the world has learned how to keep an oil price bulge from becoming an inflation problem. But in this instance, the global economy faces international supply chain issues, and a rejiggering of that chain is likely. In the U.S., there is a tilt to see workers paid more generously for the same work. Corporate supply chain officers are more likely to look for more stable sources of supply in the future instead of just the lowest costs. If these trends prove lasting, we will find we have exited what had been an era of cost-minimization replacing it with various other goals including a substitution away from fossil fuels to transition to higher-cost energy. It hardly seems that a recession in energy prices is going to salve all those wounds as the IMF spokesman suggests. Inflation in the coming years seems likely to have any number of places from which it could arise and the narrow focus on current high oil prices seems to be somewhat ‘archaic.’

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