Inflation is proving more resilient than expected in January on both sides of the Atlantic. This also means that it is not letting go of its grip and continues to govern the macro outlook.
There is certainly a very marked easing on the energy price side. Even above the $80 a barrel mark for the Brent variety, oil was 50% higher a year ago. As for gas, its TTF spot price is the same as before the outbreak of war in Ukraine. Electricity is also far from record levels.
ECB to raise rates by 50 basis points
This is well reflected in the benchmark indicators for central banks. It is the measures that exclude energy that have seen a reversal in trend. For example, in the euro area, inflation on items outside energy and food reached a new record high in January, at 6.3% year-on-year. Wages and government stimulus have taken over from energy as the drivers of inflation. Since the release of this figure, the consensus expectation is that the ECB will have little choice but to raise rates by another 50 basis points at its next meeting in March. The way also seems clear for the May decision, with a further hike. The ECB has even lagged behind the curve in terms of price developments and market reactions. Yields on eurozone sovereign debt have risen by half a percentage point for the ten-year maturity, reaching a record 2.79% on 2 March. Some ECB council members no longer rule out the need to go as far as a key rate of 4%, compared with the current 2.5%.
Peak for the Fed still expected this year
For the Fed, the situation is not much better. Against all expectations, prices rose between December and January, by 0.5%. Over a year, inflation is certainly far from the June 2022 peak of 6.4% (-10 basis points), but it does not look like it will quickly return to the Fed’s 2% target either. Housing – both owned and rented – is heavily weighted in the index and has driven the monthly increase. As for the labour market, the situation remains tense. Unemployment is still at a low level and many new jobs (517,000 in January) are being created. The wage-price spiral is therefore hardly slowing down. The US central bank will probably also have to raise interest rates more than it estimated at the beginning of the year. However, according to its forecasts, the peak should be reached during the course of this year.
Fears of recession limited
As this is more a case of excessive economic strength, also fuelled by the reopening in China, recession fears remain limited. Companies can pass on the higher costs to their customers. And let’s not forget that consumers still have some savings to spend after the pandemic period. However, notes Safra Sarasin, the effects of monetary policy are usually felt with a lag of about 12 months. Therefore, it would be premature to look for a central bank-induced slowdown in the data currently available. There is therefore a risk that monetary policymakers will tighten more than is necessary.
With this latest turnaround, on the currency side, the pressure is on the euro. In other words, it is the ECB that is expected to accelerate the pace of rate hikes. Its task remains delicate, however, also in the face of the indebtedness of certain countries making a much more expensive debt service very difficult to bear.
PMI services in expanding territory
What does this mean for the PMI indices? The messages are somewhat mixed. In the US industry, companies have reduced their inventories, and they have reduced their reserves in terms of order books. The index rose by 0.4 points to 47.3 points, but indicates a contraction for the fourth consecutive month. On the other hand, the services sector continued to improve, with the index above estimates at 55.1 points (-0.1). Price pressures have eased, inventories are building, and companies are delivering quickly.
In Europe, industrial activity did decline slightly to 48.5 points (-0.3). However, the index hides positive elements, such as the easing of upward pressure on costs and the stabilisation of volumes after eight months of contraction. In February, the services index reached a new peak since June, at 52.7 points (+1.9). Business growth has led to better order books. Overall, the spectre of a recession is receding.
