Eurozone: Inflation increases for the first time since January - ING

Bert Colijn, Senior Economist at ING, notes that the Eurozone inflation increased by 0.1% in June, which was the first time prices grew since January.

Key Quotes

“The improvement came on the back of higher oil prices and the fading out of the declines of last year as we measure inflation on an annual basis. The oil price has been dominating inflation figures due to its large swings, which also means that we can now expect a gradual improvement in headline inflation as oil price effects turn positive. With prices around US$50 per barrel, energy price contributions to inflation could turn positive this autumn.

More important than the headline number is the tick up in core inflation. The improvement from 0.8% to 0.9% shows that second-round effects of the oil price drop are not dragging core prices down as well. The same can be said of wages as wage growth also picked up cautiously in the first quarter. While this will be a relief to the ECB, it has to be said that the outlook for core inflation remains weak. Service sector businesses are not expecting price increases, while the labour market is also still too weak to bring price pressures.

The weak outlook for core inflation is also noticeable in inflation expectations. Market inflation expectations for the coming 5 years (5y5y euro inflation swap forward) were already very low before the Brexit vote, but have since plummeted to around 1.3%. Although this measure may be a flawed indicator of where inflation is expected to stand in 5 years’ time and possibly impaired by recent market turmoil, it does give some indication that markets do not expect inflation to return to 2% anytime soon.

While this is the case, we do not expect a strong response from the ECB. The initial market responses to Brexit have been strong, but markets have stabilized somewhat in recent days. Besides that, the increased package of QE has only taken effect this month and the return to price growth in June will be considered a positive sign in Frankfurt. This gives the ECB some time to assess the impact of the British EU referendum more thoroughly as things unfold.”