Preamble: the Governing Council.
Typically, we distribute a briefing package ahead of the Governing Council (GC) meeting. However, on this occasion, we have decided not to do so for two reasons. First, the timing of the HICP report. Second, the ongoing trade conflict introduces a high degree of uncertainty into the macroeconomic assessment, making it unusually reliant for the GC on judgment rather than data.
Our assessment is that recent data—both on inflation and economic activity—have largely aligned with the expectations of the GC. Technically, ECB staff will update the short-term forecasts to reflect the incoming data but not the medium-term forecast. Regarding risks, the outlook for economic growth is tilted to the downside, while inflation risks appear balanced. It should be noted, however, that the current shock is unprecedented in scale, limiting the ability to confidently identify its effects.
In summary, we expect that the GC will adopt a “cut and see” approach, or more likely, a “cut and dovish” stance. Any in-depth discussions on further policy actions are expected to be deferred until the June meeting. Overall, we expect the ECB to continue lowering interest rates throughout 2025.
The March HICP report was in line with expectations and does not shed new light on whether inflation will reach the ECB’s target in a sustained manner. Excluding the effects related to tariffs, the overall inflation outlook remains broadly unchanged. The latest data show minimal shifts in the distributions and continue to indicate a strong common trend among core items. Given this, we maintain our near-term projection for month-on-month inflation (annualized) in the 2.0–2.5% range, again excluding tariff-related distortions.
Regarding the medium-term outlook, we have incorporated expectations of slower economic growth, a slight increase in the unemployment rate, and a modest rise in import prices. Taken together, these factors largely cancel each other out in our medium-term models, resulting in only marginal adjustments. As previously noted, the precise magnitude of the external shock to the euro area remains uncertain. Nevertheless, we judge that downside risks dominate the outlook for economic activity, while inflation risks appear balanced. In our view, the asymmetry in these risks—particularly the downside tilt in growth—should be a key consideration for monetary policy decisions going forward.
Evidence from the distributions
The distribution: centered around target. This month, the distribution is similar to the previous month (see ridge plot). Looking at a longer horizon (Figure 1), the distribution shows little movement in the last 9 months (in fact, in the last 3 it is more dispersed) and remains concentrated around the target.
Finally, the median (Figure 2) ticked up in March and remains close to the target.
Overall, this evidence suggests solid near-term readings slightly above target, with MoM (SAAR) expected in the 2.0–2.5% range.
Figure 1. Kernel of HICP excluding food and energy items changes (%, a.r.)
Figure 2. Median of HICP excluding food and energy items prices increase
Evidence from our CI model
Our CI model estimates that, excluding idiosyncratic shocks, the common component across items remains solid. Figure 3 illustrates the decomposition of the MoM change in core HICP into its “common” and “idiosyncratic” components.
According to the model, the common component increased by 25 basis points in March, above the average of previous months, while the idiosyncratic shock is small and negative (1 bps). As in previous months, we define “true” core HICP as the measure that excludes the idiosyncratic component. Based on this approach, a rough estimate places the MoM (SAAR) for “true” core HICP close to 3% in March.
The CI model’s signal in recent months aligns with the distribution trends, indicating that core HICP is currently running above target. The good news is that the 3m/3m rate now stands at 2.4% and moving sideways (see Figure 4 below).
An Excel file containing the results of the CI model is here.
Figure 3. Contributions to MoM changes of HICP excluding food and energy items
Note: the Figure shows the decomposition of the MoM percent changes of HICP prices excluding food and energy items. The contributions are estimated using our CI model.
Figure 4. Estimated “Common” component: YoY, 3m/3m a.r. and 6m/6m a.r.
Note: the Figure shows the 3m/3m at annual rate (green line), the 6m/6m at annual rate (red line), and the YoY (blue line) of the “common component” estimated using our CI model.
Implications for the medium-term forecast of core HICP
The model-based forecasts is little changed from the flash release. We have now folded in some economic slowdown, a small increase in the unemployment rate, and a small shock to import prices. Overall, right now the shocks offset eachother. Projections based on the unemployment rate (average YoY) indicate: 2.5% in 2025, 2.4% in 2026, and 2.1 in 2027. Meanwhile, forecasts using the output gap indicate: 2.5% in 2025, 2.3% in 2026, and 2.2% 2027. On average, these projections are above the most recent ECB/NCBs staff forecast.
Figure 5. Model-based medium-term forecast of core HICP (YoY)
Using Urate as a measure of “slack”
Using outputp gap as a measure of “slack”
Note: the confidence intervals (C.I.) are calculated using the estimated parameters distributions.
A comparison with the ECB/NCBs staff forecast
Comparison with ECB forecasts. Table 1 compares our latest model-based forecast with the ECB/NCBs staff forecast. The 2024 carryover effect for 2025 is broadly similar to the 2023 carryover for 2024 for core HICP, while it is slightly higher for headline HICP. Acquired inflation (in sa space) in 2025 is 1.7% for core HICP and 1.5% for headline HICP. This implies that the risks around the ECB/NCBs staff forecast are a bit skewed to the upside.
(For a technical note on the concepts of “acquired inflation” and “carryover effect” see here and here).
Table 1. Comparison of forecasts
Note: the “UnderlyingInflation” forecast refers to the average of the two models shown in Figure 5.