Recalibrating. We expect the December Governing Council to recalibrate the message, stressing that the risks are shifting. We estimate that the incoming data have been weaker than implied by the September macroeconomic projection exercise with more convincing signs of disinflation. Importantly, the “main” model revised down significantly its medium-term forecast. The model forecast is now lower than the ECB/NCBs staff forecast in 2023, 2024, and 2025. We expect the new ECB/NCBs staff forecast of core HICP at 2.7% in 2024, 2.2%-2.1% in 2025, and 2.0% in 2026. Risks are to the downside (the forecast can round to 2.0% in 2025). The inertial Taylor rules conditional on a forecast for core inflation as in the “main” model implies 2 cuts in 2024, while the non-inertial Taylor rules imply up to 6 cuts. In other words, it is possible to rationalize what markets have priced but only assuming a non-inertial GC reaction function (or assuming a recession in 2024).
Main points:
Disinflation on its way. In 2023, core HICP prices have followed closely the (NSA) path observed in 2022. In September, the series finally deviated and in November re-gained the pre-Covid pattern. More evidence is needed in early 2024 (as most re-pricing happens at the beginning of the year) but disinflation now looks on track.
Figure 1. Evolution of cumulative (unchained) core HICP by year.
The main model forecast is revised down. The “main” model forecast using the output gap (sample ends in Q4) is lower than at the time of the October GC meeting as a result of weaker than expected incoming data. The downward revision is sizable. The forecast now converges to target at the end of the medium-term. The model forecast using the output gap is (average YoY): 5.0% in 2023, 2.6% in 2024, 2.0% in 2025, and 2.0% in 2026.
Figure 2. Current vs previous GC round “main” model medium-term forecast of core HICP.
Note: the figure shows the model forecast of core HICP (YoY) in the current round (left panel) and the previous GC round (right panel). The red shadowed areas show the intervals of confidence from the estimated parameters distributions.
Model forecast below ECB/NCBs staff projection. The “main” model anticipates well the evolution of the ECB/NCBs staff forecast of core HICP. Compared to latest forecast, the 2023 forecast of the model is marginally lower in 2023 and significantly lower in 2024 and 2025. The model forecast is lower than the ECB/NCBs forecast in 2023, 2024, and 2025.
We expect the new ECB/NCBs forecast of core HICP at 2.7% in 2024, 2.2%-2.1% in 2025, and 2.0% in 2026. Risks are to the downside (the forecast can round to 2.0% in 2025).
Figure 3. Evolution of core HICP inflation forecast: “main” model vs ECB/NCBs staff forecast.
Note: the figure shows the evolution of the core HICP inflation forecast of the “main” model (yellow lines) vs ECB/NCBs staff forecast (blue lines). All figures are annual averages in each year. The x-axis refer to the dates of the GC meetings with new ECB/NCBs staff projections.
The Taylor rules imply 2-6 cuts in 2024 depending on the degree of inertia. The inertial Taylor rules conditional on the degree of inertia consistent with the observed path of the ECB deposit rate and a forecast for core inflation as in the “main” model implies 2 cuts in 2024. The non-inertial Taylor rules imply up to 6 cuts.
Figure 4. Taylor rules
