Global Daily – Below but close to 2%

by: Aline Schuiling

Euro Macro: Headline inflation rises on energy prices, but core inflation still very low – A number of eurozone countries published inflation data for May yesterday. The flash estimate for eurozone inflation will be published today and the early data suggest it will rise further to just below 2%. Although this is consistent with the ECB’s definition of price stability, the central bank is focused on setting monetary policy to ensure inflation is in line to sustainably hit this goal over the policy relevant horizon (2-3 years ahead). As we explain below, this year’s rise in inflation will likely prove temporary and inflation is still on track to undershoot the goal over the coming years.

All individual countries reported an acceleration of inflation of between 0.2 and 0.4pps in May, compared to the April numbers. For instance, France’s HICP inflation rate increased to 1.8% in May, up from 1.6% in April, Germany’s to 2.4% from 2.1%, Italy’s to 1.3% from 1.0% and Spain’s to 2.4% from 2.0%. The detailed data show that energy price inflation was the main factor behind the rise in the headline inflation rate. Indeed, energy price inflation rose to 11.8% from 8.8% in France, and to 13.8% from 9.8% in Italy. Some of Germany’s main states also reported a jump in the (already very high) inflation rate of energy prices.

Turning to core inflation, the results from the countries that have already published detailed data, showed a modest rise or a stable core inflation rate. Italy’s statistical office reported stable core inflation in May (at 0.3%) and Spain’s a rise to 0.2% in May, up from 0.0% in April. France’s detailed inflation report even suggests a modest decline in core inflation, with the inflation rate of all services (weight of almost 50% in the inflation basket) declining to 1.0% in May, down from 1.2% in April, and the inflation rate of manufactured product (25% of the basket) rising to 0.0% in May, up from -0.2% in April.

The detailed inflation data from Germany’s largest states seem to suggest that core inflation rose in May, as the inflation rate of package holidays jumped higher by around 10pps (to around 7% in May, up from around -3.1% in April) and the inflation rate of clothing and shoes increased noticeably as well. Still, each of these two items has a history of being very volatile, as they are very much driven by seasonal factors (the timing of holidays and discount sales). On top of that, lockdown measures will have created extra volatility (partly due to base effects) during 2020 and 2021.

Based on the numbers of the individual member states it seems that eurozone headline inflation will increase to 1.9% in May, up from 1.6% in April, with the core rate rising to 0.8% from 0.7%. Looking further ahead, headline inflation will probably move up a bit further in the coming months. However, the factors driving the move – food, energy prices, statistical effects from tax changes and some service sector price rises once lockdowns end – are transitory in nature and inflation will fall sharply from the start of next year onwards. An important factor that will limit the core inflation rate is that a large amount of slack has built up in the economy during the pandemic. All in all, we expect core inflation to remain well below the ECB target during the next 2-3 years.