ECB at its best: cut, then confusion. The governing council appears committed to cut rates at the upcoming meeting. We expect only cosmetic revisions to the staff forecast (the flash May reading was likely after the cutoff date). Having said that, what happens after June is way more uncertain. Indeed, the data are less friendly than perceived in Frankfurt with HICP services running at 4%+ (ar) at the margin. Not only, but at this point “acquired inflation” for 2024 (at 2.6% in NSA space) is already equivalent to the ECB/NCBs staff forecast for the entire year. This implies that while the June projection might be very similar to the March exercise, the risks for September are to the upside. Put it simply: in our estimate, the ECB cuts now but it is forced to pause in September as the staff will revise up the forecast again in Autumn. We also suspect that neither Lagarde nor any governing council member is fully aware of this; communication is likely to bring confusion.
Main points:
The incoming data on core HICP have been stronger than implied by the latest ECB macroeconomic projection exercise. We estimate that core HICP prices are running at 2½+ ar, with strong services readings (4% ar sequential). “Acquired inflation” for 2024 is now equivalent to the ECB/NCB forecast for the entire year. This implies that the ECB/NCB staff will possibly be forced to revise up the forecast (more likely in September than now because the cutoff date for the projection exercise was earlier than the flash May release).
Figure 1. Evolution of cumulative unchained core HICP by year (index =1 on New Year’s Eve).
The main model medium-term forecast is revised up compared to the last round. The “main” model forecast is revised up, as the incoming data have been stronger than expected by the model. The model forecast is above the latest ECB/NCBs projection and remains higher than target at the end of the medium-term.
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 a bit above the ECB/NCBs staff projection. The “main” model anticipates well the evolution of the ECB/NCBs staff forecast of core HICP. Compared to the previous forecast, the current forecast of the model is revised up. The model forecast is a bit above the latest ECB/NCBs forecast.
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 imply 2 cuts in 2024. The non-inertial Taylor rules imply more cuts. This is unchanged compared to the previous round. We remain unsure whether the ECB will be able to cut in H2.
Figure 4. Taylor rules
