We have put together a presentation on Euroarea inflation and what we expect in the upcoming Governing Council meeting.
Main points:
- Inflation in the EA is no joke. All the evidence points to a very persistent core process (remember: inflation is not driven by commodities so it will not cure itself). Disinflating the EA economy will require a protracted monetary effort. In our view and estimates, it will not magically stop because of SVB in the US. Ultimately, we are facing a distribution of price changes (figure below) that has nothing to do with pre-Covid: it will not shift back on its own.
- Demand is strong. The evidence and new research point to very strong demand. Cooling off this demand might require an effort from fiscal policy as well. We provide 10 evidences that demand is strong in the Euroarea and that the labor market is overheated. As an example, the figure below shows the share of firms reporting scarcity of labor as a primary constraint on production… in Italy (yes, scarcity of labor in Italy):
- ECB: what it should do is clear, what it will do is less. We expect the ECB staff to revise up core HICP inflation forecast only marginally (from 4.2% to 4.5%-4.6%) and down headline. We show in the slides how unrealistic the ECB staff forecast is, even if revised up. Given the situation, what the ECB should do is clear. ECB is facing a choice: chickening out on SVB fears and let inflation run or fight? We hope the answer is the latter, but it is the ECB…