Europe’s most expensive summer is about to test central bankers’ resolve

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Europeans brace for a costly summer that will test central bankers’ resolve for stimulus as the region’s delayed economic recovery triggers increased demand.

The question for officials from Frankfurt to Warsaw is whether the acceleration in inflation will last long enough to alter long-term expectations of businesses and households. If so, it could create a self-reinforcing cycle in which higher prices lead to higher wage demands – despite high unemployment – which fuel even more price increases.

Price pressures could also embolden central bankers who believe policy has been too loose for too long, by holding potentially tense rate-setting meetings later this year. While the official line is that the inflationary spike will be temporary, recent data is fodder for those worried about the risk of being wrong.

“All cyclical and structural factors add up and point to a trend reversal,” said Gertrud Traud, chief economist at Helaba in Frankfurt. “Once German inflation hits 3%, the unions will ask, ‘What about the workers?’ “

The prospect of faster inflation was evident in a series of reports on Tuesday, after factories raised prices at the fastest rate in nearly two decades due to rising costs and decrease in stocks.

It fuels the buyers. Consumer price growth reached 2% in the eurozone – technically above the The ECB’s target – for the first time since 2018. In Poland, it was more than double. The Bundesbank estimates that German inflation could reach 4% this year.

The 4.8% reading in Poland – which is not part of the eurozone – highlights the growing risks. The authorities fear that 5% tipping point that is fueling public inflation expectations, according to people familiar with central bank thinking and government officials.

There are few signs that the squeeze in global supply is easing. Asian manufacturers, component makers for much of the world, slowed down activity last month as countries battled virus outbreaks. Several factories in Thailand have temporarily closed to stem outbreaks, Taiwan has reported record weekly deaths from the virus and Malaysia has started a two-week nationwide lockdown.

In Europe and elsewhere, the increase insolvencies when corporate tax support is removed could exacerbate supply problems.

The Organization for Economic Co-operation and Development said this week that while global price pressures are expected to ease towards the end of the year, “increasing risks ”in the longer term.

What Bloomberg Economics Says …

“The ECB staff forecast in June is unlikely to show anything that would prevent another quarter of higher PEPP buying. In March, they had core inflation well below the target over the forecast horizon. “

-David Powell and Maeva Cousin. For the full grade, Click here

Despite the impressive jump in Poland, the central bank believes that the surge in consumer prices is short-lived. It has so far chosen not to follow its regional peers, notably Hungary and the Czech Republic, in signaling impending interest rate hikes.

Elsewhere, Iceland’s central bank last month became the first in Western Europe to tighten monetary policy since the pandemic by raising interest rates, leading a spike in inflation. Norway’s central bank has also signaled that it is on track to start tightening.

At the ECB, whose job is complicated by managing by far the largest currency area in the region, with divergent growth prospects in different members, officials insist that supply shortages will be overcome and that year-to-year price changes will decrease. figures in the headlines.

Market-based measures indicate that price increases in the euro area will on average be below target for years to come.

Toilet paper rolls

Energy costs are a big factor compared to a year ago, as prices plunged when travel was halted in 2020. The eurozoneCore inflation’s measure, which excludes energy, food and tobacco, was much more subdued at 0.9%.

“I would be very, very surprised if Europe saw widespread price increases,” said Paul Donovan, chief economist at UBS Global Wealth Management. “Should central banks tighten their policies because the price of toilet paper rolls suddenly went up?” No of course not.”

The persistent fear of central bankers is, however, a “de-anchoring” of inflation expectations. That would force them to consider tightening monetary policy – a tough decision when unemployment is above pre-pandemic levels and heavily indebted governments are dependent on low borrowing costs.

The alternative would be to let inflation soar for a while. This is arguably valid after the many years when price growth has been too weak, but it risks echoing a strategy of the 1960s that badly ended a decade later.

“Now is not the time to worry about inflation,” Angel Gurria, outgoing OECD president, told Bloomberg Television this week. “Although it should always be kept in mind.”

– With the help of Zoe Schneeweiss and Matthew Miller



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