In Europe, A Sight For Sore, Irrelevant Eyes

Rejoice! The rate of annual price growth in Europe decelerated this month by the most in more than two years.

That’s the good news. The bad news is, headline inflation is still 10%.

The preliminary read on annual price growth for the euro area in November marked a reprieve from a long stretch of above-consensus prints. Economists expected 10.4% from the headline gauge, which came uncomfortably close to 11% in October.

In a testament to just how relative the term “relief” is in the context of developed market inflation in 2022, I had to adjust the size of the red dot in the figure (above) so as not to obscure the “drop.” Core price growth remained stuck at 5%.

Although the 12-month rate of energy price growth remained extraordinarily elevated at nearly 35%, that actually counted as a “slow” pace. The figure was 41.5% last month, and if you round up July and August, annual energy inflation has effectively been running at 40% or more every month. Energy prices fell nearly 2% on MoM basis in November.

The 0.6% decline in the annual rate was, for all intents and purposes, the first since the summer of 2020 (figure below).

Wednesday’s figures came amid a spate of relatively good news on the inflation front in Europe. Annual inflation in Germany ticked lower this month, as did price growth in Spain, where the 12-month rate has fallen dramatically since August, from 10.5% to “just” 6.6%. In France, the 12-month rate was unchanged at 7.1%. HICP inflation is still double digits in 11 of 19 countries.

At the risk of downplaying good news, there wasn’t much to celebrate in the bloc-wide release once you get beyond the deceleration in energy prices. Services price growth was effectively unchanged at 4.2%, and although the 12-month rate for unprocessed food decelerated from October’s scorching-hot reading, it was far from comforting at 13.8%. The rate for processed food, alcohol and tobacco (remember, you can still drink and smoke in Europe without being labeled a degenerate) hit a new high near 14%.

Like the Fed, the ECB is pondering a step down to 50bps hike increments this month following consecutive 75bps moves. Of course, it scarcely matters. I’ve argued (and will continue to argue) that inflation in Europe is a function of energy prices and, to a lesser extent, food prices, both of which depend in no small part on the evolution of the war in Ukraine. The ECB’s capacity to impact price growth is limited in that context, but also constrained by the usual difficulties associated with orchestrating a unified monetary policy for disparate countries all operating in different fiscal regimes.

The policy rate is woefully disconnected from inflation (figure above). If those two things (the depo rate and headline CPI) are related, you wouldn’t know it from glancing at a simple chart of the two. When you throw in the fact that recession, and thereby some demand destruction, is assured with or without additional rate hikes, it’s not obvious what the ECB’s role is, other than to give the appearance that policy isn’t derelict.

My guess is, inflation hasn’t peaked in Germany or in France, the bloc’s two largest economies. “Whether this is the peak in [bloc-wide] inflation remains to be seen [as] another episode in the energy crisis could easily push inflation back up again and core inflation usually proves to be sticky after a supply shock,” ING said Wednesday. “The question is how relevant the talk about a peak in annual inflation actually is,” the bank added, noting that it’s probably “more relevant to focus on month-on-month developments as base effects will become significant in the coming months.”

The good news for the ECB is that if they’re irrelevant, then shifting down to smaller hike increments is riskless. If you’re irrelevant, you’re irrelevant. I don’t expect that to show up in the statement language this month, though.

Earlier this week, Christine Lagarde told the European Parliament she’d be surprised if inflation has peaked.