The past week (16-22 September) was packed with monetary policy meetings and inflation reports. While the US Federal Reserve’s first key rate cut of 50 basis points was larger than we had expected, the status quo by the BoE and BoJ was in line with our expectations. With inflation running below 3%, real interest rates on both sides of the Atlantic remain broadly in restrictive territory. Expected moderation in inflation in services should prompt central banks in Europe and the US to continue monetary easing in the coming quarters. Wage growth in the private sector picked up slightly in the US, while slowing in Europe. The downward trend is expected to continue, with a less dynamic labour market. In Japan, domestic inflation is, at this stage, not reacting significantly to wage increases, giving the BoJ time to calibrate its future rate hikes. Supply pressures (input prices, delivery times) remain limited across all regions.
. In the United States, headline CPI inflation fell from 2.9% y/y in July to 2.5% in August, due in particular to negative base effects on energy goods: year-on-year, the drop widened from -2.0% to -10.1%. Core inflation, for its part, stabilised at 3.2% y/y. The rise in the shelter component picked up slightly (+0.2 percentage points to 5.2%), while slowing in other services (-0.3 pp to 4.3%). Car insurance costs continued to rise sharply, albeit less significantly than in July (-2 bps at 16.5%). Disinflation in second-hand cars has not changed month to month and remains above 10%.
. Inflation in the euro zone also fell in August, by -0.4 pp to 2.2% y/y, with a significant decline in Germany (-0.6 pp to 2.0%), France (-0.5 pp to 2.2%) and Spain (-0.5 pp to 2.4%). However, core inflation slowed only from 2.9% to 2.8% (rounded down). The slowdown in prices across the euro zone is expected to continue in September and October. Belgium remains by far the country in the euro zone with the highest inflation, at 4.4% in August, while the rise in prices is below 1% in Lithuania and Latvia. The alternative measures of inflation tracked by the ECB converge towards 2%.
. In the United Kingdom, the moderation in inflation can be explained more by energy, which is still significantly seeing deflation (due to capping measures introduced by the authorities), at -13.2% y/y in August. Headline inflation stabilised at 2.2% in August, while core inflation rose again from 3.3% to 3.6%. Services showed a more marked increase (+0.4 bps to 5.6%), mainly due to changes to the costs of air transportation, which are inherently volatile. At 7.2% y/y, rent inflation was stable and the highest in 30 years.
. In Japan, the national CPI was once again above 3% y/y in August. Two factors explain this upturn: the significant increase in energy prices (+12.1% y/y), linked to the temporary cessation of government subsidies in May, and changes to prices of household goods and appliances (+1.6 bps to 5.2% y/y). The Bank of Japan’s preferred measure (CPI excluding perishable products), which includes energy prices, rose from 2.7% to 2.8%. Nevertheless, the government has reinstated new energy subsidies, effective between August and October, which will limit inflation by the end of the year.
Chart of the month - ECB: An illustration of the inflation expectations re-anchoring
ECB Survey of Professional Forecasters (SPF):
distribution of long-term inflation expectations
After the debate on the reasons why of the surge in inflation and the relative magnitude of supply and demand factors[1] and the associated debate on the appropriate monetary policy response (should rates be hiked in the face of supply-driven inflation?), the discussion continues today on the causes of the inflation fall and the role of monetary policy tightening in this phenomenon. For Jerome Powell, as presented in his opening remarks at Jackson Hole on 23 August, the Fed’s monetary tightening played an important role. On the ECB’s side, Philip Lane’s message, in his own speech at the same event, is more balanced: monetary tightening played a role for sure, but no more important than other factors[2]. However, he rightly points to the significant role of rising interest rates in anchoring inflation expectations. And he makes an interesting observation in this respect, illustrated by the chart opposite.
On this graph, it can be seen that, in the years preceding the Covid-19 pandemic, long-term inflation expectations (as measured by the ECB’s survey of professional forecasters: the SPF) had become de-anchored to the downside, with a relatively high percentage of respondents anticipating inflation rates below the 2% target: the distribution was skewed to the left.
The inflationary shock of recent years has in a way opportunistically put things back in their place and reset the counters to 2%: the distribution is again centered around the inflation target and expectations of persistently lower or persistently higher inflation are better balanced (risks are two-sided). Philip Lane concludes that this re-anchoring of long-term inflation expectations “has removed the need for an open-ended accommodative underlying monetary stance”.
One cannot, however, ignore the uptick on the right. In the Q4 2022 SPF, the proportion of respondents anticipating 5-year inflation of 2.5% or more was close to 20%, which is an elevated share. The good news is that this proportion decreased to just under 10% in the last available survey for Q3 2024. We will remain vigilant to ensure that this proportion continues to fall.
