No Certainty to Reach 2%
Troubling reading. The February flash core HICP figure came in a bit stronger than (we) expected (our preview is here). Overall, the upward surprise was small: NSA level 106.81 vs 106.63 expected by us. Having said so, the fundamental issue for the ECB is the same: right now, the most likely scenario for core HICP is to remain above target (around 2.5%+) going forward. Today’s report is a confirmation, especially given the persistency of HICP services. Unfortunately, the data (and the models) are now unlikely to give a clear guidance at least until June. For this reason, we expect a prudent ECB.
As usual, we wait for the final reading to assess the distributions. What follows is our first reaction to the data. We will finalize the forecasts during the weekend, and circulate our pre Governing Council meeting package soon.
A PDF containing all relevant charts can be downloaded here.
A PDF containing all relevant charts for the big 4 countries can be downloaded here.
Details
A bit stronger than expected, cannot rule out 2½-3 percent at the end of the year. We estimate that in February core HICP prices grew 25bps MoM (sa) or 3% at annual rate (see here for a comparison across filters). This brings the 3m/3m (ar) to 2.5% (Figure 2). The 3m/3m (ar) is below the YoY, signaling that the annual variation should moderate further in the coming months. However, the 3m/3m is now accelerating, therefore the 2.5% appears as a lowerbound for the YoY right now going forward. Overall, the issue remains the same of recent months: yes, the EA is disinflating but right now the most likely scenario is for core HICP to remain above target. (see also the persistency of HICP services here)
(Note: last month (here), we signaled possible downward revisions to the MoM saar in January once the February data would have been published. Indeed, this is what happened, although the downward revision is less pronounced because the February data are a bit stronger than expected)
Figure 1. Core HICP NSA unchained index by year.
Note: the figure shows the evolution of core HICP by year, normalizing the index at 1 on New Year’s Eve.
Figure 2. Core HICP metrics.
Note: the figure shows the metrics of 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).
2024 acquired inflation at 1.5% (sa). 2024 forecast close to 3%. With the February data, we estimate that acquired inflation for 2024 is 1.5% in core (sa) HICP space. This implies that reaching target (as average YoY) in 2024 is very unlikely, and that a forecast close to 3% is more reasonable at the moment.
(For a technical note on the concepts of “acquired inflation” and “carryover effect” see here and here).
Table 1. Forecast comparison, carryover effect, and acquired inflation.
Medium-term model-based forecast is revised up. The models forecasts are revised up compared to the preview run, as both the current quarter (nowcast) and the previous quarter are a bit stronger in SA space. Using the unemployment rate as measure of “slack”, the forecast is at 2.8% (average YoY) in 2024, 2.6% in 2025, and 2.5% in 2026. Using the output gap (right panel in Figure 5), the forecast is: 2.8% in 2024, 2.6% in 2025, and 2.4% in 2026. The average of these forecasts is above the latest ECB/NCBs staff forecast at every horizon now.
Please, take these forecasts carefully. We will work during the weekend to finalize the numbers. The issue remains the same: the seasonal adjustment filters in this moment are very volatile. Therefore, the figures above can change in the next few days. We will report the final numbers in our “Pre Governing Council Meeting Package” (coming soon).
Figure 3. Core HICP: YoY forecast of our “main” Phillips curve model.
Using Urate as a measure of “slack”
Using outputp gap as a measure of “slack”
Note: the figures show the YoY forecast of our “main” Phillips curve model for core HICP price inflation. The confidence intervals are calculated from the estimated parameters distribution.
Implications for the ECB staff and monetary policy
Prudence. Is the Euro area disinflating? Yes. Can core HICP reach and stay at target? Maybe. In fact, as shown above, the most likely scenario at the moment is for core HICP to remain above target (at least 2.5%) going forward. For this reason, we continue to expect a prudent ECB at the upcoming meeting.