On Hold
Recent data on core HICP has validated the forecast made by the ECB and national central bank staff. The risks surrounding this forecast—including those related to real GDP growth—appear to be balanced.
In our view, the message for this monetary policy round is simple: the ECB is likely to remain on hold. There is no urgency to make any immediate decisions. Everything can be deferred until after the summer, or until the incoming data clearly indicate which way the risks are leaning.
Main points:
The incoming data on core HICP have been in line with the latest ECB macroeconomic projection exercise. We estimate that core HICP prices are running at 2-2½ ar. The 2024 path has been very similar to the path in 2023. So far, in 2025 core prices have increased at a similar pace than 2024, just a touch lower. Our near-term forecast implies MoM readings of core HICP around 2-2½ (saar) in the next few months. Acquired inflation for 2025 implies that the risks around the ECB/NCBs forecast are balanced.
Figure 1. Evolution of cumulative unchained core HICP by year (index =1 on New Year’s Eve).
The main model medium-term forecast is unchanged compared to last round. The “main” model forecast using the output gap is little changed compared to the time of the last governing council meeting, as the incoming data were in line with the model own forecast.
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.
Trend inflation models. The average of the models in Q2 is 2.2 percent, unchanged compared to last round and marginally lower than the previous quarter.The estimate of “trend inflation” implies a core forecast around target at the end of the medium-term.
Figure 3. Trend inflation models as in Rudd (2020) for the Euro area.
Note: the chart shows the estimated trend inflation from econometric models as in Rudd (2020). The models are split into three groups. The first group is a collection of Phillips-curve (PC) type of trend inflation models in which a measure of long-term inflation expectations is used as a proxy of trend inflation. The second group is a collection of state-space unobserved component models in which we have modelled trend inflation either as a smooth trend or as an augmented local level. Finally, the third group of models is a collection of Time Varying Parameters Vector AutoRegressive models (TVP-VAR) with different endogenous variables. This set of models follows the FEDS Note by Rudd (2020) “Underlying Inflation: Its Measurement and Significance”.
Path of the ECB deposit rate. Inertial Taylor rules suggest that the deposit rate might remain well above 2% at the end of 2025, while non-inertial rules suggest it could be around 2% by then. In our view, the ECB will remain “on hold” for the foreseeable future.
Figure 4. Taylor rules
