By Alexander Jones, International Banker
According to official data released on Friday, July 1, the eurozone’s annual inflation rate soared to an all-time high of 8.6 percent in June, up from the previous record of 8.1 percent set in May. And having easily surpassed expectations, there are now growing calls for the European Central Bank (ECB) to implement a more aggressive monetary-policy-tightening path than planned.
Data from Eurostat showed that energy recorded its highest annual rate (41.9 percent, compared with 39.1 percent in May), followed by food, alcohol and tobacco (8.9 percent, compared with 7.5 percent in May), non-energy industrial goods (4.3 percent, compared with 4.2 percent in May) and services (3.4 percent, compared with 3.5 percent in May). Russia’s reduction of fossil-fuel supplies to Europe—particularly natural gas—was instrumental in the energy-price surge, while the conflict’s disruption to agricultural supplies pushed food prices considerably higher.
A Reuters poll of economists before the release of June’s figures showed an expectation of 8.4 percent for the eurozone’s June inflation. The surge in inflation for the 19-member bloc also reflects the individual record highs recently posted by several of its biggest economies, including France, Italy and Spain. But every country reported sharply accelerating prices, with the Baltic states, in particular, experiencing runaway prices. Estonia, Lithuania and Latvia registered inflation rates of 22 percent, 20.5 percent and 19 percent, respectively, as their outsized dependencies on imports to meet their energy needs were clearly exposed.
Only two countries—Germany and the Netherlands—reported falls in inflation when compared to May’s annual figure. Germany experienced a slowdown in price growth only because of temporary government relief measures, including lower fuel taxes and discounted public transport costs. As such, the eurozone’s biggest economy reported a 0.5-percent decline vis-à-vis May’s figure. Indeed, the eurozone’s core inflation measure, which excludes the typically more volatile energy and food prices, slowed marginally to 3.7 percent in June from 3.8 percent in May.
Nonetheless, such contingent measures to rein in prices are expected to do little to bring Germany’s or the eurozone’s inflation down significantly over the coming months.
All this means that the ECB is under added pressure to boost rates by more than its initially planned 25-basis-point hike at its next rate-setting meeting on July 21, with policymakers agreeing to raise interest rates for the first time in more than a decade. “If the inflation outlook does not improve, we will have sufficient information to move faster,” ECB President Christine Lagarde had warned prior to Friday’s inflation announcement.
An excessively aggressive monetary tightening could tip the eurozone economy into a recession, however, which officials have been keen to avoid. “With the uncertainty, we have to manage the two risks,” Philip Lane, the bank’s chief economist, recently told CNBC. “On the one side, that could be forces that keep inflation higher than expected for longer. On the other side, we do have the risk of a slowdown in the economy, which would reduce inflationary pressure.”
“We are still expecting positive growth rates due to the domestic buffers against the loss of growth momentum,” Lagarde added, with the ECB having recently forecasted a 2.8-percent gross domestic product (GDP) for the bloc in 2022.
It should also be noted that as of July, the ECB will stop purchasing additional assets as part of its quantitative-easing programme, such that its total balance-sheet holdings are almost €5 trillion, or some 40 percent of the eurozone’s total GDP. This may persuade the central bank to confine the rate hike to just two basis points. “We think that [the] ECB is going to hike interest rates by 25 basis points in July and will deliver an accumulated 150bps in hikes by the end of [the] year,” according to Oxford Economics analyst Mateusz Urban, as quoted by Politico magazine.
Nonetheless, an elevated inflation rate may persist for some time, particularly if other countries’ recent records are anything to go by. Indeed, Commerzbank economist Christoph Weil told the Financial Times shortly after the June figures were released that eurozone inflation will be at 7.5 percent by the end of this year, well above the ECB’s 2-percent target, as wage demands continue to mount over the coming months to keep up with living cost surges. “Unions will demand at least partial compensation for higher inflation in the upcoming wage negotiations,” Weil added. “Wage inflation is therefore likely to increase significantly.”