Global Daily – Eurozone reflation

by: Aline Schuiling , Kim Liu , Maritza Cabezas

  • Jump in inflation in various states points to consensus-beating rise in eurozone inflation
  • ECB accelerates QE only modestly in May – sharper frontloading seen in June
  • US consumer spending, weaker than expected, but manufacturing surveys firm

Country data point to jump in eurozone inflation

German HICP inflation rose to 0.7% yoy in May from 0.3% in April. Regional CPI data show that, as expected, energy price inflation increased in May, due to the rise in oil prices since the start of this year. More surprisingly, the yoy change in clothing and shoe prices dropped sharply, while that of package holidays jumped higher. More fundamentally, core inflation in Germany is expected to pick up in the coming months. Economic slack is waning and the labour market is tightening.

Inflation did not only jump higher in Germany in May, but also in Spain (HICP to -0.3%, up from -0.7% in April) and in Belgium (CPI to +0.6% from +0.3%). These national results signal that eurozone inflation (flash estimate is published on Tuesday) will also beat the current consensus estimate.


ECB QE frontloading yet to materialise in a big way

The ECB announced that holdings of public and private sector debt increased by EUR 63.1bn in May. The monthly target of the QE programme is EUR 60bn. So it appears that the ECB stepped up its purchases, but only rather modestly. So the frontloading ahead of the summer lull that ECB Executive Board member Benoit Coeure announced is not yet materialising in a big way. This was also confirmed by the more recent trend in the weekly data. Given the modest increase in the pace of purchases in May, the frontloading will likely need to accelerate in June, which will likely mean that the net supply of core government bonds will be even more negative this month. This should support prices and lead to a further decline in core bond yields. In addition, the backloading in September could become a real possibility.


Meanwhile, the data also show that the remaining maturity of bond holdings have decreased for almost all countries. The maturity of holdings of Dutch bonds are still among the lowest of all holdings at 6.85yrs. Together with the remaining maturity of German debt at 7.11yrs, it appears that core national central banks have bought on average bonds with a lower maturity in May. This buying behaviour coincided with the surge in bond yields, which meant that the eligible universe the ECB could buy expanded to lower maturity securities.


US consumer spending weaker than expected in April

Although US business investment was stronger than expected in the past couple of months, consumer spending has yet to show signs of recovery after a weak first quarter. Despite the increase in personal income in April (0.4%), real personal spending was flat, following an upwardly revised 0.4% gain the previous month. Households continue to save and pay down debt. Last month, the savings rate rose to 5.6% from 5.2% the prior month.  Meanwhile, core PCE, a preferred inflation measure by the Fed, was up by 0.1% mom in April and 1.2% yoy. In contrast,  core CPI has been trending upward and was at 1.8% yoy in April. Medical expenses provide an explanation for the differences in the inflation data, which result from differing methodological approaches. We expect both inflation measures to gradually turn up this year.


US manufacturing surveys firm in May

Both of the key US manufacturing surveys improved in May. The Markit US manufacturing PMI edged up to 54.1 from 53.8 in April. Manufacturing job creation in this index was reported for the twenty-third consecutive month. Meanwhile the ISM manufacturing index increased to 52.8, up from 51.5.  This report suggests that factory employment returned to expansion in May, increasing 3.4ppts to 51.7. The employment component of these reports suggest that the labour market will continue to do well, especially given the strength of service sector job growth.