New euro zone inflation record adds pressure on ECB – POLITICO

FRANKFURT — Eurozone inflation hit a record high of 8.6% in June, once again beating expectations and increasing pressure on the European Central Bank to step up its fight against soaring prices , Eurostat flash data showed today.

A Reuters poll of analysts had indicated a record jump of 8.4% in June, from 8.1% in May.

Searing inflation continues to be driven primarily by energy prices, which rose 41.9% in June from 39.1% in May. Next come food, alcohol and tobacco prices, which rose 8.9% in June from 7.5% the previous month.

Core inflation, which excludes volatile components and is considered a good indicator of underlying price pressures, declined slightly to 3.7% in June from 3.8% in May.

Among the Member States, the Baltic countries remain the hardest hit, with inflation reaching 22% in Estonia, 20.5% in Lithuania and 19% in Latvia. The lowest inflation rates were recorded in Malta (6.1%) and France (6.5%).

The new upside inflation surprise could push ECB rate hike expectations higher. The ECB signaled that it would raise interest rates by 25 basis points in July, followed by another, possibly larger, move in September.

But Friday’s reading is likely to increase calls for a bolder upside already in July and makes a bigger move in September almost certain..

This is already the expectation of the markets, which have priced in more than 140 basis points of tightening until the end of the year. “We think the ECB will raise interest rates by 25 [basis points] in July and will deliver a total of 150 [basis points] up by the end of the year,” said Oxford Economics analyst Mateusz Urban. With the ECB meeting four more times, that means it would rise each time, in some cases by more than 25 basis points.

Friday is also the first day that the ECB will not add any more bonds to its balance sheet, leaving its total holdings just below 5 trillion euros, or 40% of eurozone GDP. However, for now, it will continue to reinvest maturing bonds purchased under its various programs.

The ECB will also start to show flexibility by reinvesting proceeds from bonds purchased under the pandemic program to help contain differences in borrowing costs between eurozone member states. In practice, this means that the ECB could buy an Italian bond using cash from a maturing German bond.

This decision was prompted by the recent rout in the bond market which raised fears that the sovereign debt crisis could return with a vengeance. Since flexible reinvestments are not considered sufficient to thwart a sovereign debt crisis, the ECB has also pledged to design a new one to limit so-called bond spreads, or the difference in bond yields between states. members.

The risks of a new debt crisis are just one of the headwinds facing the ECB. There are also growing fears that the fallout from the war in Ukraine on the doorstep of the euro zone could push the monetary union into recession.

So even if signs point to faster inflation tightening now, the ECB could ultimately be forced into another U-turn and abort those efforts, economists warn.

Among them is economist Berenberg Holger Schmieding, who now expects eurozone GDP to contract 0.8% next year, rather than grow 2.1% like the suggest the latest ECB forecasts. Others, including UniCredit’s Erik Nielsen and EFG Bank’s Stefan Gerlach, agree that a recession is now more likely than not.

“If we are correct with our calls for a recession in the euro zone, the ECB will again have to significantly revise its outlook in December,” Schmieding said. « Although inflation at that time will likely exceed the ECB’s current projections by a significant margin again due to even higher gas prices, the recession should bring inflation down faster and deeper. afterwards. »

Urban agreed that given the growing risks to growth, there might not be any further upside in the first half of next year.