Euroland: ECB inflation target almost reached

In January 2017, pressures on prices in the Eurozone were clearly much more pronounced than expected. The annual rate leapt to +1.8 percent on the heels of +1.1 percent in December 2016. That is the highest figure in almost four years. The rise in EMU consumer prices has thus taken a giant leap towards reaching the European Central Bank’s inflation target of “below but close to two percent”. The annual rate a few months ago was still only just above the zero-percent mark. Only in the last two months have consumer prices dared move into positive territory again – in unusually sharp bursts. The strong rise in inflation can be attributed to energy and food prices, the latter owing to the cold weather in recent weeks. Euroland inflation looks set to remain relatively high in coming months before falling again in the second half.

What is behind the high growth rates? As early as December 2016 not only was a positive turnaround in prices of energy goods to be seen, but also a marked burst in the price components for foodstuffs, drinks and tobacco. Both price drivers gained significant additional momentum in January 2017. Above all, energy prices surged on the prior-year month, climbing +8.1 percent.

Inflation also climbed more appreciably for food in January. In particular, unprocessed food such as fruit and vegetables rose on the same month the previous year by a tangible +3.3 percent. This increase can be attributed mainly to the cold winter that led in particular in Spain’s agricultural sector to larger-scale crop failures and thus to supply bottlenecks to many countries in Europe. The tighter supplies no doubt prompted many dealers in the Euro area to raise food prices sharply in the short term.

The core rate has remained lodged at the modest +0.9 percent seen the prior month. It reflects the inflation rate excluding the strongly volatile price components for energy and food. The comparatively weaker trend for the core rate is primarily attributed to the more moderate Euroland wage trend. While consumers still remain very willing to spend, the rise in demand from private households has to date evidently not sufficed to allow industry and service providers to pass the higher purchasing prices on to the final consumers.

However we have certainly not seen the end of developments. The rise in inflation could continue in February. The background is a renewed positive baseline effect of the price of oil: One year ago, prices of energy goods fell after the unexpected drop in the price of oil. This negative effect will no doubt expire in spring 2017 triggering another visible upward surge in the inflation rate as a whole. Toward mid-year the relatively high inflation rate should then steady up before gradually dwindling in the further course of the year. In other words, the harmonized Euroland inflation rate should at least initially remain close to the ECB inflation target.

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