Later this week the European Central Bank meets to set interest-rates for the Euro area and yet again we see that its Forward Guidance on the subject is in disarray. Let us start our journey by seeing how it is doing on the inflation front.
Euro area annual inflation is expected to be 1.8% in September 2024, down from 2.2% in August according to a flash estimate from Eurostat, the statistical office of the European Union.
Looking at the main components of euro area inflation, services is expected to have the highest annual rate in September (4.0%, compared with 4.1% in August), followed by food, alcohol & tobacco (2.4%, compared with 2.3% in August), non-energy industrial goods (0.4%, stable compared with August) and energy (-6.0%, compared with -3.0% in August).
As you can see inflation has fallen below the target of 2% per annum. In a sense that simplifies things, or at least it would if ECB policymakers had not spent so much time guiding people to look at services inflation which is still 4%. If we switch to producer prices we see some recently monthly rises,
In August 2024, compared with July 2024, industrial producer prices increased by 0.6% in the euro area and by 0.4% in the EU, according to first estimates from Eurostat, the statistical office of the European Union. In July 2024, industrial producer prices grew by 0.7% in the euro area and by 0.8% in the EU.
But the moves were essentially energy price changes.
increased by 1.9% for energy,
That is awkward for the ECB which has been a cheerleader for the green policies which have raised energy prices. But overall producer price inflation looks weak/
In August 2024, compared with August 2023, industrial producer prices decreased by 2.3% the euro area and by 2.1% in the EU.
So overall a central bank with what it calls a restrictive interest-rate has grounds for more interest-rate cuts.
The Economy
This is so often dominated by Germany but this time it is in a bad way as this from earlier today shows.
BERLIN (Reuters) – Current economic indicators point to continued weakness in the German economy in the past quarter, the economy ministry said in its monthly report on Monday.
“The weak economic phase is likely to continue in the second half of 2024 before growth momentum gradually picks up again in the coming year,” said the report.
This adds to the news we received last week from the German government.
- The German government expects economic output to decline by 0.2 percent this year.
- This means that it is significantly revising its forecast for the development of gross domestic product downwards, as Economics Minister Robert Habeck (Greens) said.
- In the spring, the German government had expected a slight increase in gross domestic product of 0.3 percent. ( SRF News)
This sort of thing always progresses like this in penny packets as they drip feed as little of the bad news as they can. There was even a sort of Jam Tomorrow in the release.
The German government is somewhat more optimistic about the coming year than before: it expects an increase of 1.1 percent.
They are more optimistic for next year because their numbers need it not because anyone actually believes it. After all at the same time this year was supposed to be like that.
If we now look wider we see that Germany seems to be dragging the Euro area lower with it.
The euro area economy suffered a fresh setback at the end of the third quarter as total business activity decreased for the first time since February. According to the latest HCOB PMI® survey data, which are compiled by S&P Global, private sector output decreased marginally when compared to August. Notably, the currency bloc’s big-three nations – Germany, France and Italy –recorded contractions simultaneously for the first time in 2024 so far/
Labour Market
This was an area trumpeted by the ECB as Bloomberg points out.
It was only July when President Christine Lagarde touted the strength of Europe’s jobs market as a reason that the ECB could “take time to gather new information” when setting monetary policy. That time now appears to have run out.
Apart from President Lagarde’s awful track record in touting things there is the clear issue of a weaker economy feeding into employment prospects.
With major companies like BASF SE and Thyssenkrupp AG already offloading staff, some officials fear a sudden deterioration that could further rattle a region teetering on the brink of a recession. ( Bloomberg )
It is no great surprise that these are German companies but there are now concerns elsewhere too.
For now, data only point to a gentle cooling rather than a rapid downturn. But employment growth slowed to just 0.2% in the second quarter and the share of vacant jobs dropped to 2.6% in the same period from a peak that topped 3%. Surveys like the monthly polls of purchasing managers by S&P Global also paint a worsening picture. ( Bloomberg)
Bond Yields
This is an area which has a back to the future feel about it. What I mean by that is on the opening day of this month it looked at though the German ten-year yield was about to fall to exactly 2% and maybe even give is a 1 big figure. That was logical as the lower September inflation figure had emerged and economic growth prospects continued to weaken. But since then we have seen quite a change as the same German yield has risen to 2.26%. Still well below the present interest-rate and suggesting interest-rate cuts but one fewer than before if we assume a 0.25% move when in fact more and more cuts seem likely.
Remember the ECB is these days no longer reducing bond yields and is instead if anything raising them.
The APP portfolio is declining at a measured and predictable pace, as the Eurosystem no longer reinvests the principal payments from maturing securities.
The Eurosystem no longer reinvests all of the principal payments from maturing securities purchased under the PEPP, reducing the PEPP portfolio by €7.5 billion per month on average. The Governing Council intends to discontinue reinvestments under the PEPP at the end of 2024.
It has all sort of consequences as Fitch Ratings point out below.
We project the aggregate losses of the Eurosystem at over EUR160 billion (averaging 0.2% of GDP per year) over 2024-2028 before provisions, reserves and, in the case of the NCBs, taxes.
Comment
The situation is simple and the ECB should cut interest-rates on Thursday. Indeed with the economy struggling it would be logical to cut by 0.5% to 3%. But my Forward Guidance point is that at the last meeting it was hinting it would hold off until December. Now we are seeing panicky articles the other way.
The Eurozone’s weak economic growth and sluggish consumer price rises have raised concerns that the European Central Bank may be facing the threat of too little rather than too much inflation, economists have warned. ( Financial Times)
Those struggling to pay their energy and food bills will have a rather different perspective on that and it links to a question in this week’s podcast. Surely we should be happy for inflation to run low for a while so that people’s living -standards can benefit? Apparently not.
“Avoiding a fall back into the pre-Covid world [of inflation below 2 per cent] will be one of the ECB’s biggest challenges,” said Jens Eisenschmidt, chief Europe economist at Morgan Stanley, who until 2022 worked at the ECB. He predicts the ECB’s key deposit facility rate will have halved to 1.75 per cent by December 2025, but added: “It is very well possible that this level will not be the end [of the easing cycle].” ( Financial Times)
Quite a change in a month……