Risks are to the upside for core HICP and to the downside for headline HICP. The December flash HICP report confirms that core inflation is growing at a robust pace (close to 6% at annual rate). Our near-term and medium-term forecasts are both well above the December ECB staff projections. As for headline, the risks are more balanced and possibly skewed to the downside. In our view, monetary policy should remain very hawkish if the ECB is committed.
Details
Core HICP: room for the YoY to keep growing in the coming months. We estimate that in December core HICP prices grew 49bps MoM (sa) or 5.8% at annual rate. This brings the 3m/3m (ar) to 5.9%, unchanged from November, and the YoY to 5.2%. December is the 18th consecutive month in which the 3m/3m (ar) runs above the YoY, suggesting there is still plenty of room for the YoY to tick up again in the coming months. On a quarterly basis, we estimate that in Q4 core HICP grew 5.9% (QoQ, ar), 6 tenths higher than in the previous quarter, and 1½% higher than in H1.
Figure 1. Core (final) HICP metrics.
Note: the figure shows the metrics of (final) core HICP. All figures are seasonally adjusted. “ar”” stands for “annual rate”. The 3m/3m and the 6m/6m are chained (that is, using the US BEA method). The latest point on the chart is December 2022 (estimated).
The risks around the ECB staff core HICP inflation forecast are skewed to the upside. Figure 2 shows history of the MoM (sa) of core HICP, together with our own forecast and the implied path of the ECB staff in the December projection. Without entering into the details, conditional on our forecast, the YoY is expected to average at 5.2% in 2023 against the 4.2% of the ECB staff. The December flash confirms that the incoming data are already well above what the ECB staff expected (the ECB staff does not forecast in sa terms but in December we estimate that the upward surprise of the MoM (sa) could be as large as 15bps. Indeed, the ECB staff projection seems to assume a generous disinflation path going forward, somehow even more generous than in the US where monetary policy has been more aggressive).
Figure 2. Core HICP MoM (sa): history, our forecast, and implied ECB staff forecast.
Note: the figure shows the MoM (sa, not annual rate) of core HICP prices. The blue line shows history and our own forecast. The red-dashed line shows the forecast implied by the December 2022 ECB staff macroeconomic projections.
A model-based forecast confirms that the risks are to the upside for core HICP. We are working on a Phillips curve “main” model for the Euro area (mimicking the one of the US). Our preliminary results are shown in Figure 3. According to the model, core HICP is forecasted at 4.5% (Q4/Q4) in 2023 (average of four quarters at 5.0%), 3.5% in 2024, and 3.3% in 2025. The confidence bands (calculated from the estimated parameters distributions) also suggest that the risks are skewed to the upside. While these results are still preliminary, they confirm the results of our bottom-up judgmental forecast.
Figure 3. Core HICP: YoY forecast of our “main” Phillips curve model.
Note: the figure shows the YoY forecast of our “main” Phillips curve model for core HICP price inflation. The confidence intervals are calculated from the estimated parameters distribution.
Headline HICP: the risks are to the downside. For brevity, we do not show our judgmental and model-based forecast for headline HICP. The bottom line is that they point to downside risks, as they both suggest that the average of the YoY could be close to 5% (as opposed to 6.3% of the ECB staff forecast). We will provide more details with the final release.
Implications for the ECB staff and monetary policy: time to wake up and follow the Fed. What we are witnessing in the Euro area seems a replay of what happened in the US. There are clear differences, of course. But there is something in common: the ECB staff is late and continues to be surprised by the incoming data (of core inflation) to the upside. In the next few months, headline inflation will moderate due to base effects and lower energy prices. But the real game is with core inflation, expectations, and wages (post coming next week). Right now, the ECB is losing. Time to wake up and follow the Fed.