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Economy in Brief

Inflation Rages in EMU and Hovers Globally
by Robert Brusca  August 18, 2022

Inflation in the European Monetary Union in July finalizes at 8.8% year-over-year. The gain for July is 0.7%, slightly softer than June's 0.8% and the same as May’s 0.7% rise, marking a strong run of price increases in the European Monetary Area.

Among the largest economies and the EMU, Spain's year-on-year inflation rate at 10.7% leads the parade, followed by Germany at 8.4%, Italy at 8.3%, and France at 6.8%. The United Kingdom, the second largest European economy but not a European Monetary Union member and no longer a European Union (EU) member, logs inflation at a 10.1% pace over 12 months. In all cases, the year-over-year inflation rate has accelerated at least slightly compared to the month before, and (of course), sharply form the year before.

While it seems inflation has been elevated for a long time, comparison with inflation rates a year ago remind us that that's an illusion. Twelve-months ago the pace in the European Monetary Union was excessive but stood at 2.4%. German inflation was excessive at 3.2%, Spanish inflation was excessive at 2.9%, but French inflation was within the target parameters at 1.5%, as was Italy's at 1.0%. Inflation in the euro area has been creeping up over the target for a while, but the aggressively excessive inflation is still a relatively new phenomenon.

Core vs. headline
The results for core inflation underscore that core inflation rates are significantly below the headline. The overall European Monetary Union rate at 8.8% is more than double the pace of the core that is up by 4% year-over-year in July. Individual member rates are substantially below headline rates as well. Spain has the highest core rate at 6.2% (but that is still only about 60% of the headline pace in Spain). Spain’s strong core pace is followed by Germany’s, whose ex-energy rate is 4.4%, then by France where the core is up 4.3%, and in Italy with the core up by 4.2%. In comparison, the U.K. has a much hotter core inflation rate running at a 6.6% pace.

The tendencies for inflation to accelerate breakdown a little bit this month. For headline inflation six-month inflation accelerates compared to 12-month inflation but then the three-month inflation rate steps down to a 9% pace from a 10.1% pace. Core inflation at 4% year-over-year dips to a 3.7% pace over six months and then jumps back to a 4.5% pace over three months accelerating vs. both its six-month pace and its 12-monht pace.

Acceleration by country
Headline inflation among European Monetary Union members shows all members with accelerating inflation from 12-months to six-months. However, from six-months to three-months inflation accelerates in Italy and in Spain while it decelerates in Germany and in France. However, only in Germany among EMU members is the three-month pace of inflation below the 12-month pace of inflation.

Core inflation among EMU members shows acceleration everywhere from 12-months to six-months. From six-months to three-months, however, ex-energy inflation decelerates in Germany, while core inflation accelerates and all the other EMU members. Also, German core inflation is lower over three months than over 12 months but for all the other EMU members three-month inflation exceeds 12-month inflation.

Energy prices
Oil and energy prices have been a clear driver of inflation in the European Monetary Union with Brent prices expressed in euros up by 64.1% over 12 months, up at an 85.9% annual rate over six months and now slowing as they are up at the 21.6% annual rate over three months. The monthly data shows sizable Brent price increases in May and June but in July prices broke falling by 7.3% month-to-month.

Global inflation
The chart that accompanies this report shows how the inflation process in Europe mirrors how the process works in the United States and in the United Kingdom and to a much – much - lesser extent in Japan. Central bankers in the U.S., the U.K., and the EMU are taking steps to push inflation back down, but central banks are doing this with different amounts of pressure as they face different economic circumstances. Although Europe experiences and inflation rates are every bit as hot as inflation in the U.S., the ECB is concerned about the potential for an energy price shut off by Russia in this has it moving more cautiously. It also is concerned about differing financial conditions across members and it's taken steps to try to contain any differential financial effects that might emerge.

The inflation fight
The ECB, the Bank of England, and the Federal Reserve all admit that inflation is too high, and all are taking steps to try to contain it. But inflation is now quite substantially above the targets and all these countries/areas target a 2% inflation rate. We have yet to see exactly what kind of steps, what degree of pressure, and with what kind of speed, these central banks are going to use to get inflation back into its target range. Central bankers are saying all the right things about controlling inflation, how the rise is temporary, and that they are taking steps. But talk is cheap as markets respect most the actions that they see in train. These central banks have been slow to take up the inflation fight, and they have progressed at differing speeds, once engaged.

Great expectations
To some extent, inflation expectations are rising, and central bankers are trying to push back against that and characterize rising expectations as episodic and still broadly consistent with their 2% targets for inflation. However, these characterizations of actual data, survey we can observe, are becoming harder to swallow. The longer that inflation-expectations part from what's being targeted, and the larger the departure from target, the more pressure this is going to place on central banks.

The way ahead...
Globally there is some degree of a slowdown occurring in China as despite its zero COVID objectives COVID seems to have spread widely, and this is leading to more growth-braking activity to try to contain it. The war between Ukraine and Russia continues to exert tension on prices and supply lines and keeps the West off balance as to what energy prices will do next. The U.S. can unleash more drilling and fracking to augment global oil supplies but because of President Biden’s focus on climate change, the U.S. continues to keep a tight rein on drilling and oil production - at least in the U.S. Peculiarly the U.S. continues to try to pressure Venezuela, and the Saudis to produce more oil and seems to be actively negotiating to reestablish a nuclear deal with Iran that would allow it to export more oil. That seems to be a bad geopolitical trade-off for oil that could be produced in the United States with fewer geopolitical ramifications. But, as always, politics drive policy. The economics are only a constraint. And the politics of policy can produce some strange results.

Commentaries are the opinions of the author and do not reflect the views of Haver Analytics.

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