ECB Brief: As German Inflation Rises, So Do Euro Area Price Expectations

30 March 2021

By David Barwick – FRANKFURT (Econostream) – The latest increase in inflation in the Eurozone’s largest economy comes as anything but a surprise at the European Central Bank. Even so, monetary authorities may be holding their breath to see what follows.

Consumer prices in Germany accelerated for the third month in a row in March, growing at an annualized 1.7%, according to the flash estimate of the German Federal Statistical Office on Tuesday. That was the fastest pace since 1.7% in February of last year.

Driven by special factors, the return to robust price increases comes very quickly, given that German annual inflation in the second half of last year never hit positive territory, to then surge to 1.0% in January and 1.3% in February.

On a harmonized basis and thus more relevant for the calculation of the pan-European number to be published tomorrow, Germany registered an even higher 2.0% this month, as compared to the ‘below, but close to, 2%’ threshold for price stability used by the ECB.

In its latest monthly bulletin released last week, the Bundesbank said that German HICP would rise over the coming months and ‘could clearly exceed 3% at times by the end of the year.’ Meaning, as some observers anticipate, German inflation in the second half will persist at levels between 3% and 4%.

With a weight of almost 30%, the impact on euro area HICP will be impossible to miss. The fact that a number of comparatively diminutive member countries are still mired below zero for the moment won’t change that. And with annual HICP up this month to 1.2% in Spain, the four largest economies in the area are all already well out of the red.

Of course, the ECB has conceded already that inflation would rise clearly this year, though its upwardly revised estimate of 1.5% may yet, for the first time in a long time, undershoot the actual outcome. In any case, what inflation does in the current year is never supposed to be the point, given the medium-term orientation of its monetary policy.

Which explains why ECB President Christine Lagarde earlier this month said, ‘It is possible that this year, particularly at the end of 2021, inflation actually hits 2%. But I will tell you something: we will see through that for a very clear reason and that is that inflation will most likely go up possibly to 2% because of some technical and temporary reasons.’

Indeed, already next year the ECB sees HICP sagging back to 1.2%, only to recover slightly the following year, to 1.4% and thus well below price stability.

Yesterday’s news on the wage front may justify the benign view from the Eurotower, as German trade union IG Metall accepted a 2.3% increase in wages. The union is the country’s and indeed Europe’s biggest industrial union and includes many auto workers. Its wage agreements have an important signalling effect nationally, and the details of Monday’s accord appear to limit the likelihood of durably resurgent inflation.

Earlier this month, ECB Governing Council member and Bundesbank President Jens Weidmann suggested that higher inflation was unlikely to be long-lived owing precisely to low wage pressures. ‘For a more sustained push in inflation we would need to see corresponding movements in wages, and that’s not something that we observe at this juncture,’ he said.

Still, rising inflation can become entrenched. The EU Commission’s business and consumer survey results for March 2021, released today, showed selling price expectations up clearly in industry - where the monthly rise was the largest ever – as well as in the construction sector, but also in services and retail trade, hard hit by the pandemic.

Euro area consumers’ assessment of price trends over the next 12 months was also up, back to the long-term average of the index for the first time since last June.

Ultimately, the ECB is supposed to get its jurisdiction back to inflation readings like those now being observed in Germany. But an abrupt return to price stability holds little appeal, as governments continue to battle a pandemic that is not yet over and has played havoc with national debt levels.

Even if the inflationary developments the region seems on the cusp of prove temporary anyway, monetary authorities would be happier not to have anything that needs looking through. Such volatility muddies the waters, such that it becomes difficult to see whether something more is in fact lurking below the surface.