President Biden denies there is an inflation problem

The inflation issue is one that has been heating up on 2021. One way of looking at it is to simply note the rising numbers we see be it for consumer or producer inflation. To that we need to add house prices because they are usually omitted from consumer inflation measures. There is an issue with annual comparisons due to the pandemic but the monthly rises have reinforced the theme. Next we can look at it via the official response and also by who makes it. One effort has come from the US Federal Reserve and here is Mary Daly of the San Francisco Fed from the 17th of February.

Fed’s Daly: – “Too-high inflation” not a risk to think about at the moment

– Don’t see “unwanted inflation” around the corner

– Pressures on inflation are downward.

She has been proven to be spectacularly wrong on her third point and wrong on her third. Unless she wanted CPI inflation over 5% she was wrong on that too. Whereas in reality there were clear risks.

The problem for Mary Daly is that having expanded the Federal Reserve balance sheet to US $7.44 trillion there were always going to be consequences.

Another step was the deployment of Treasury Secretary Yellen and he she is from February 8th.

Addressing Summers’ fears that the package would cause inflation, Yellen conceded that it was “a risk that we have to consider”. But Yellen, who as former Fed chair oversaw US monetary policy, added: “I’ve spent many years studying inflation and worrying about inflation. And I can tell you we have the tools to deal with that risk if it materialises.”

So far no such tools have materialised and the Federal Reserve has done nothing apart from claim that the inflation it denied would happen will be short-lived. It has changed its view of transitory though which has gone from 2-3 months to 6-9.

President Biden

The President joined the debate on Monday.

President Joe Biden addressed voters who are worried about inflation on Monday, arguing that his domestic spending plans would help keep prices low over the next decade. ( CNBC)

You may note the shift from now to an unspecified future. Also it was pretty extraordinary stuff.

“My ‘Build Back Better’ plan will be a force for achieving lower prices for Americans looking ahead,” Biden said in a speech Monday at the White House.

Biden argued the infrastructure and family support investments contained in his $4.5 trillion domestic spending plan will fund decades of economic growth, increase the workforce and keep prices low.

“If your primary concern right now is inflation, you should be even more enthusiastic about this plan,” said the president.

These are classic political moves as he again makes claims about the future and implies they will deal with inflation now. His Treasury Secretary is mining a similar vein.

“We will have several more months of rapid inflation, so I’m not saying that this is a one-month phenomenon,” Treasury Secretary Janet Yellen told CNBC in an interview that aired Thursday.

“But I think over the medium-term, we’ll see inflation decline back toward normal levels,” she added.

If we switch to the Washington Post we see two other tactics in play.

Speaking at the White House on Monday, the president said “no serious economist” believes “unchecked inflation” is likely. He blamed the rising cost of living on the strains of economic reopening.

“You can’t flip the global economic light back on and not expect this to happen,” Biden said.

As I have already pointed out the Federal Reserve did not expect this to happen and throwing insults such as “no serious economist” only reveals the pressure they are feeling.

The Problem

Part of it was highlighted in the Washington Post.

Only once in six years had Mark Maguire raised prices at his North Dallas restaurant.

Then, some of his employees, no doubt noticing the banners touting $1,000 signing bonuses at other eateries, demanded higher wages. And his suppliers hiked the cost of chicken, beef and cooking oil.

Maguire’s costs rose so much so fast that he has had to rewrite his menu prices twice since March. Whether additional increases will follow depends upon a complex interaction of food supplies, labor availability and a shape-shifting virus.

Although there is for those who prefer theory over practice the analysis of Mark Zandi of Moodys which has been quoted by President Biden.

Worries that the plan will ignite undesirably high inflation and an overheating economy are overdone.

In a way that is true because you cannot ignite something which is already burning. Then we get his demand pull style theory.

The fiscal support it provides is only sufficient to push the economy back to full employment from the recession caused by the COVID-19 pandemic.

Yet only a sentence later the he seems to be not so sure.

Because the package includes a myriad of spending and tax initiatives, some of which are new and uncertain,

Renewable Energy

This is an associated problem for the inflation debate. President Biden plans a big increase in renewable energy but the UK which has already invested heavily in this is today highlighting what always was the obvious flaw.

GB Grid: #Wind is generating 0.11GW (0.33%) out of 33.61GW

So much for the UK being the “Saudi Arabia of wind power” as Prime Minister Johnson has claimed. Also something which we were supposed to be consigning to the past is seeing a surge.

COAL MARKET: Asian benchmark coal (Newcastle 6,000kc/kg) spikes to a fresh 13-year high of $163 per tonne. For a commodity that was left for dead, Australian (and other) coal miners are making this year an absolute killing ( Javier Bias Bloomberg )

We keep being promised electricity will get cheaper and yet the same source reports.

Spanish wholesale electricity prices have now surged to a record high of €106.57 per MWh, surpassing the previous peak set in 2002. Power prices are turning into a hot political potato in some European countries this summer.

Curious because we kept being told Spain’s solar power was booming and the price dropping. One factor I have spotted from the UK data is that solar takes time to build within the day. For example at 10 am UK production was 3.5 gigawatts out of a maximum of about 8. So even on a hot July day it takes its time.

Thus unlike Moodys I am expecting longer-term inflation from this source. Hopefully there will be advances but with the plan to switch to electric vehicles we look to be creating a problem.

Comment

We have learnt over time that an official denial is tantamount to a confession. But as we survey the scene I see much that is familiar. One example of this is from Dylan Patel os semi-analysis.

Semiconductor shortage alone is causing nearly 2% of inflation! People often say inflation is going nuts, but most of CPI inflation is due to used car prices, vacation travel boom, and energy prices. Once you remove these, inflation is manageable.

We always see claims that there is little inflation via excluding the things which are going up! I note his chart uses only the lower core CPI. But if you are going to take things out surely you should put in things which are omitted like house prices. I am sure you have already figured why he has not done that.

Some elements will change and fade but others will emerge. For example whilst Imputed Rents are a fantasy  they will presumably pick up in response to higher hour prices. They will remain a poor guide but at 24% of the index even a small move will have an impact.

Returning to President Biden the idea that US $4 trillion of spending will not create inflation is an extraordinary effort. But in one area I do have sympathy because much of what is happening now relates to the decisions made before his term.

 

 

 

 

The ECB strategy review is just more of the same

This week is ECB time and this meeting is a material one on several counts. Things were revved up a bit last week by President Lagarde in interviews with Bloomberg and the Financial Times.

 we now have what I would call a simple, solid, symmetric two per cent target. So we express very firmly that we are determined to deliver two per cent. I think that is a big change.

Actually everyone thought that anyway but tucked in with it was a couple of attempts to mislead.

And maybe the really important third “s” is symmetry, because we affirm very clearly that there may be deviations up or down, either below or above two per cent and we state that we consider both deviations up or down as equally undesirable.

The new central banking mantra is to try to get inflation above target except in something of an echo of the Japanese situation there is a problem. Here is the Lagarde view.

Second, we also recognise the effectiveness of all the tools that we have in the toolbox.

Really? Let me now hand you over to Phillipe Martim a French economist in the Frankfurt Allegmeine today.

At the beginning of his theses there is a reference to “a failure” – that of the ECB. For a long time it has mostly fallen well below its self-imposed inflation target of 2 percent. “In 90 percent of the time between 2015 and today, inflation was below 1.9 percent,” states Martin; even in times of the D-Mark there was more price increase.”

Over a period in which the ECB has thrown the kitchen sink in monetary policy terms at inflation it has in general failed in its objective. Or as Phillipe puts it.

“Today the ECB already holds 25 percent of Europe’s national debt. How far should that go, about 100 percent? Will one day buy 100 percent of the Italian national debt? ”Martin emphasizes that he“ considers the worries in Germany to be legitimate ”. There is a “problem with budget discipline” when a central bank buys massive amounts of national debt. In addition, “the exit can create a crisis”.

I expect it to keep going with QE because it is caught in a trap but would advice caution with 100% numbers as there are some pension and insurance funds who have to hold bonds. So the “free float” available to be bought is probably more like 75% although we are chasing a moving target with so many being issued. As it holds around 40% ( Phillipe is behind the times) there is not the margin you might think.

But we find ourselves at the ECB probem which is that for all the hype it has a record of consistent failure regarding its inflation target. Also if you look at the growth performance of the Euro area it is in trouble too.

There was also a classic Lagarde fail.

 We are all on the same page. There’s a unanimous agreement. There is a total consensus around that foundational document, that constitution of ours.

This took us back to the early days of her Presidency when she promised to end the splits which had been seen in Mario Draghi’s tenure. Meanwhile only a day or two later.

ECB policy makers are split over changes to their language on monetary stimulus in draft documents being circulated before next week’s Governing Council meeting, sources say ( Bloomberg)

Listening To People

This has turned into something of a classic of the genre.

During the events that I participated in myself, and I heard it from other governors, key concerns revolved around, number one, climate change.

Exactly the same as Christine’s own priority. How convenient!

When it does not agree with what the ECB wants it gets neutered. So we have a good start.

The second concern that we heard loud and clear as well, was housing costs. Housing costs us a lot, we Europeans, and this was the case in many countries. Why is it not more taken into account in your measurement of inflation?

First tactic is to delay.

But second, because we know it’s going to take time,

Although as regular readers will recall we have been on this roundabout before as I followed a process which went on for 2/3 years and was then dropped. So in fact it should be quick.

But the next one is to water it down and frankly take away most of the point of doing it.

We will include housing prices through alternative indexes into our assessment of overall inflation.

The cost of owning a house, not house prices, right? 

We will include the consumption part of owning a house. So we will not include the investment part.

As you can see the interviewer saw straight through the attempt to mislead. The reason why she is dissembling is shown below.

Over the period 2010 until the first quarter of 2021, rents increased by 15.3% and house prices by 30.9%. ( Eurostat)

Deeper Negative Interest-Rates

Christine Lagarde clearly has the interest-rate issue on her mind.

given the effective low bound that we are close to, will have to continue being used.

Sadly she was not asked whether she thought it was the -0.5% Deposit Rate or the -1% rate on liquidity for banks? But we saw only a day later the ground being tilled for more,more more on her Twitter feed.

We have decided to move up a gear and start the investigation phase of the digital euro project. In the digital age people and firms should continue to have access to the safest form of money – central bank money.

Notice how it is presented as a gain for the individual which is always a be afraid, be very afraid moment. This is because it is the road to deeper negative interest-rates which Phillipe Martin would in some circumstances apply at 100%.

“If there were the digital euro, that is, the citizens had direct accounts at the central bank, that would be easy: If the money is not spent, it will expire, for example after a year.” Otherwise, prepay cards might also be distributed under certain circumstances that are invalid after one year.”

Even the IMF was only suggesting -3%.

Producer Prices

These may well be throwing another factor into the mix. From Germany earlier.

WIESBADEN – In June 2021, the index of producer prices for industrial products increased by 8.5% compared with June 2020. As reported by the Federal Statistical Office this was the highest increase compared to the corresponding month of the preceding year since January 1982 (+8.9%), when prices rose strongly during the second oil crisis. Compared with the preceding month May 2021 the overall index rose by 1.3% in June 2021.

The real issue here is the monthly increase and they turned last December and since then have been in a range between 0.7% and 1.5%. suggesting a Yazz type situation.

The only way is up baby

Comment

Christine Lagarde finds herself in quite a mess and may even have exceeded the Grand Old Duke of York.

Oh, the grand old Duke of York
He had ten thousand men
He marched them up to the top of the hill
And he marched them down again

There was a collective failure in her appointment as after the “Euro Boom” it was considered safe to appoint someone with her track record because Mario Draghi could set policy for the opening year or two. That went wrong quite quickly.

Next comes her claim of healing divisions when it appears they have multiplied. But more importantly there is the issue of policy which is in quite a mess.  There was a signal that the main policy of PEPP bond purchases would be tapered and we were pointed towards its end date of March next year. Personally I do not believe they can stop QE as last time it lasted for only about 9 months. But some believed it with the optimistic economic forecasts.

Sadly back in the real world things are looking much more awkward with the Australian Financial Review suggesting this earlier.

The Reserve Bank will likely backflip on scaling back its $237 billion bond buying stimulus and could lift weekly purchases to $6 billion, according to leading economists including Westpac chief economist Bill Evans.

Reversing that quickly would be quite a record but as Australia has the strength of its commodities to help it, are you thinking what I am thinking? The Euro area does not have that. Will last week’s plans survive until Thursday?

Markets have picked up the pace with the German ten-year going even more negative and passing -0.4% today.

 

 

How does Japan avoid inflation?

It is time again to look across to Nihon or the land of the rising sun. On the one hand it is getting ready to stage the Olympics and on the other there are a rising number of Covid-19 cases. Switching to the economics Japan must be having a wry smile at the various “tapering” debates as it has been there so many times. I stopped counting on the 19th version of QE and that was a while ago now.  They must also be a little bemused if they look south to New Zealand which looks to be planning some interest-rate rises.

Meanwhile the Bank of Japan continues on the same path. On Friday we got its latest announcement and as well as keeping the -0.1% interest-rate we were told this.

The long-term interest rate:
The Bank will purchase a necessary amount of Japanese government bonds (JGBs) without setting an upper limit so that 10-year JGB yields will remain at around zero percent.

The reason I pint this out is that it has turned into an interest-rate rise of sorts, or to be more specific that 0% target stops Japanese Government Bonds from rallying past that point. This morning it was at 0.01%. This means that it has missed out on the yield falls we have seen elsewhere with the US ten-year falling by around half a point. If we switch to Germany it looked back in late May that its benchmark yield might be on its way to positive territory again is now -0.36% as I type this. This is awkward because you are doing QE because you believe lower yields give the economy a boost but then you stop the yields from falling further. Meanwhile you continue to buy JGBs on a grand scale.

In terms of the money supply the Bank of Japan has been pumping things up.

The year-on-year rate of change in the monetary
base has been positive at around 20 percent, and
its amount outstanding as of end-June was 660
trillion yen, of which the ratio to nominal GDP was
121 percent.21 The year-on-year rate of increase
in the money stock (M2) has been at around 6
percent, mainly reflecting an increase in fiscal
spending and a past rise in bank lending.

But as you can see the impulse fades considerably even before it hits measures which are influenced by the real economy.

Inflation

Many countries are facing an inflation scare with the debate being how long it will last? Not Japan.

The year-on-year rate of change in the CPI (all
items less fresh food) has been at around 0
percent recently due to a rise in energy prices,

You may note that it has taken a rise in energy prices to get things to zero and zero is essentially what we have observed throughout the “lost decade” period. As someone who has a mobile phone contract which rises every year this seems typically Japanese.

a reduction in mobile phone charges.

If we drill deeper into the situation we see something else which is Japanese and here is the Bank of Japan explanation.

In the cases of the United States
and Europe, the output prices indices have
exhibited remarkable increases in tandem with
the escalation of the delivery delay indices.

As we have observed costs have risen and we tend to respond by raising prices but behaviour in Japan is different.

On the other hand, in the case of Japan, although
both the delivery delay index and the output
prices index have increased, the recent degree of
increase for both indices has been limited
compared with that in the United States and
Europe

Why is that?

The relatively small degree of rise in Japan’s
output prices index may be partly attributable to
Japanese firms’ strong tendency, at least in the
short run, to ration their products without raising
their selling prices when faced with excess
demand.

So Japan places the quantity rather than the quality ( I take price as a quality measure) game. Thus they avoid at least some of the second and third order effects of higher prices. Even when things came under what they considered to be real pressure they only saw the sort of level the UK is at now.

In this regard, in the final phase of the rise in
commodity prices in the 2000s, the year-on-year
rate of change in the CPI excluding fresh food
temporarily increased to around 2.5 percent,

Could you imagine the Bank of England ever writing this?

That said, the price change distribution at
that time shows that the rates of increase for a
majority of CPI items stayed at around 0 percent,

So even when you get the below it gets heavily watered down.

and only those for a limited number of items, for
which the raw material ratio is large, saw high
price rises of around 4-6 percent

Or as they put it.

Considering these past experiences, it seems
highly likely that the CPI inflation that merely
reflects upstream cost increases will spread to
other items to only a limited extent, and thus will
be only transitory.

So if anywhere is going to see transitory inflation then as Talking Heads put it.

I Guess that this must be the place

Wage Inflation

This used to be mostly ignored as an issue in economics because wages were assumed to rise faster than prices. That changes years and in this case decades ago as it is a feature of what we call the lost decade. Although the news has yet to reach some of the Ivory Towers.

The year-on-year rate of change in scheduled
cash earnings has been positive to a relatively
large extent on the back of (1) a rebound from the
decline seen last year, (2) rising wages of full-time
employees in the medical, healthcare, and
welfare services industry, which faces a severe
labor shortage, and (3) a fall in the share of part-time employees, mainly due to the adoption
of equal pay for equal work.

We actually have some wages growth at 2% and at first it looks good because with no inflation that is a real wages rise. Except when we look back to May last year we see that real wages fell by 2.3% so in fact we are worse off. We will find out more soon as June and July are months which are significant in bonus terms but as we stand we see that wages have continued to stagnate overall.

I do like the “sooner or later” bit below.

Special cash earnings
(bonuses), which lag behind corporate profits by
about half a year, are likely to stop declining
sooner or later, reflecting improvement in
corporate profits, and continue increasing steadily
thereafter.

Comment

The Japanese experience is really rather different but in a curious development often ends up in the same place as us. They have a system where many of the numbers are 0 as we look at interest-rates and yields, inflation and wages growth. If we look at the overall pattern we see that national GDP has followed not that different a path, although the individual number is better. But they have taken ZIRP and end up with it in other areas.

But the lesson here is that at least part of the inflation issue is behavioural. Care is needed as other parts of the Bank of Japan report look at the impact of the higher price for crude oil. But that is in play and Japan has seem 0% CPI and lower producer price inflation than us. In spite of this.

In foreign exchange markets, the yen has
depreciated somewhat against the U.S. dollar
amid a weaker yen against a wide range of
currencies.

Podcast

Inflation is back on the march

Yesterday brought troubling news on the inflation front as the US CPI measure of inflation rose to 5.4%. Personally I was more bothered by the annual rise of 0.9% due to the problems at the moment with annual comparisons created by the Covid pandemic. That set something of an underlying theme for the UK release this morning so to any logical person it is rather curious to find this being reported by in this instance Ed Conway of Sky News.

UK CPI inflation rises above expectations again. Up to 2.5% in June.

If you had not be following the producer prices data we check each month you did get a clue from the US yesterday. It has different specific circumstances but broad trends for oil.food and other commodities will be in play.

Thus this was not really a surprise at all.

The Consumer Prices Index (CPI) rose by 2.5% in the 12 months to June 2021, up from 2.1% to May; on a monthly basis, CPI rose by 0.5% in June 2021, compared with a rise of 0.1% in June 2020.

We can break it down but the initial one helps a bit but as you can see whilst goods inflation is higher by the standards of this the gap is not large. However goods prices have seen a particular acceleration.

The CPI all goods index annual rate is 2.8%, up from 2.3% last month……The CPI all services index annual rate is 2.1%, up from 1.9% last month.

We can take that further although the official analysis is only for the similar CPIH as they try to force people to use their widely ignored favourite.

There were upward contributions to the change in the CPIH 12-month inflation rate from 9 of the 12 divisions, partially offset by a downward contribution from health.

So the move was fairly broad and we can specify it more.

The largest upward contribution (of 0.08 percentage points) to the change in the CPIH 12-month inflation rate came from transport, where prices rose by 1.3% between May and June 2021, compared with a rise of 0.5% between the same two months of 2020. The effect was principally from second-hand cars and motor fuels.

The second-hand car effect was something seen in the US where the unadjusted annual number was 45.2%. A lot of reliance was placed on the seasonal adjustment which reduced it to 10.5% as you can see by the difference in the numbers. The UK situation is not so different with second-hand cars seeing a monthly price rise of 4.4%. In terms of the technicalities they have reduced the weight by 20% which has proved convenient in keeping recorded inflation low but looks a clear mistake in hindsight.

Due to second-hand cars, where prices overall rose this year but fell a year ago. There are reports of prices rising as a result of increasing demand. This follows the end of the latest national lockdown and with some buyers turning to the used car market as a result of delays in the supply of new cars caused by the shortage of semiconductor chips used in their production.

That category was also impacted by rises in fuel prices of the order of 2.4 pence per litre which meant a 2% rise on the month for fuels.

Next come something rather troubling for those relying on seasonal adjustment.

A final, large, upward contribution (of 0.05 percentage points) came from clothing and footwear. Prices, overall, rose by 0.8% between May and June this year, compared with a fall of 0.1% between the same two months a year ago. Normally, prices fall between May and June as the summer sales season begins  but the seasonal patterns have been influenced by the timing of lockdowns since the onset of the coronavirus pandemic.

The US Bureau of Labor Statistics which adjusted US used car prices so heavily may have an itchy collar when reading that.

The ongoing issue of how to treat prices in area’s which see heavy discounting or the same from going in and out of best-seller charts swung the other way this month.

The largest downward contribution of 0.06 percentage points came from games, toys and hobbies, where prices fell this year but rose a year ago, with the main effects coming from computer games and games consoles.

Also the rate of increase of prices for pills,lotions and potions has faded.

A partially offsetting, small downward contribution (of 0.03 percentage points) to the change in the CPIH 12-month inflation rate came from health. Prices of pharmaceutical products, other medical and therapeutic equipment rose by 0.8% between May and June 2021, compared with a larger rise of 3.1% between the same two months a year ago.

Tax Cuts

There have been some indirect tax cuts of which the largest has been the cuts to VAT. If you fully factor them in then the inflation episode is a fair bit larger.

The annual rate for CPI excluding indirect taxes, CPIY, is 4.2%, up from 3.8% last month.

 

 

No perhaps it will not all be passed through but even if you halve the impact you end up at 3.4%

Housing Costs

This has been a contentious issue for some time and the heat is not only on it is getting hotter all the time. Why? Well the official view is this.

The OOH component annual rate is 1.6%, up from 1.5% last month. ( OOH = Owner Occupiers Housing Costs)

I had to look that up because they quote all sorts of numbers to try to hide what is so obviously embarrassing. Even the man from Mars that Blondie sang about is probably aware that house prices are soaring and will be wondering how costs are only rising .

by that little? Especially when only 2 and and half hours later we are told this.

UK average house prices increased by 10.0% over the year to May 2021, up from 9.6% in April 2021.

So prices are up 10% but costs only by 1.6%! So what fell? Well mortgages are doing little so our official statisticians have to explain how their smoothed ( it is up to 16 months out of date) number for rents which do not exist impacts with reality.

After all how can you add soaring housing costs to the CPI at 2.5% and manage to then get 2.4% as CPIH does…..

I have regularly pointed out that this is an area of strength for the Retail Prices index or RPI and the reason why is shown below.

Annual rate +4.3%, up from +3.8% last month

It is picking up the rises that everyone can see much more accurately and let me specify that. It uses house prices via depreciation which is good but even it is handicapped by the smoothing process I described earlier and would change given the chance. If so it would give a higher reading right now and be a better measure.

Comment

I thought you might enjoy my perspective on the official inflation view..

The official inflation story
1. There wont be any
2. It will be transitory
3. It was above expectations
4. It is too late to do anything about it now.

Next there is the house price issue which if we put into the CPI measure at current weights would put it at 4%. Regular readers will have noted Andrew Baldwin commenting on this and so let me refine it. In reality if they let house prices in they will have the weights even though no brick is moved,window opened or door closed. But even if we so that we get to 3.2% and the Governor of the Bank of England is in the zone where he has to write an explanatory letter. That would be awkward as this afternoon the Bank of England will buy another £1.15 billion of UK bonds in an attempt to raise the inflation rate.

Looking ahead we see that whilst the shove is not as large as last month there still is a large one.

The headline rate of output prices showed positive growth of 4.3% on the year to June 2021, down from 4.4% in May 2021.

The headline rate of input prices showed positive growth of 9.1% on the year to June 2021, down from 10.4% in May 2021.

The monthly rise for output prices was 0.4% so the beat goes on. In terms of the input ones there was a 0.1% dip but this was mostly driven by the swings in oil so we need to check again next month.

Meanwhile is some action building in services inflation?

The annual rate of growth for the Services Producer Price Index (SPPI) showed positive growth of 2.0% in Quarter 2 (Apr to Jun) 2021, up from 1.3% in Quarter 1 (Jan to Mar) 2021.

Retail Sales in Italy are struggling again

Last night it was a case of Forza Italia after the success in reaching the Euro 2020 ( yes we all know it is 2021) football final. It was an especially ice cold final penalty from Jorginho who is having quite a summer. Sadly the economic news is not hitting such heights.

In May 2021 estimates for seasonally adjusted index of retail trade slightly increased by 0.2% in value terms, likewise volume rose by 0.4% in the month on month series.( Istat)

As you can see retail sales have improved but not by much although if we take a bit more perspective things look a bit better.

In the three months to May 2021 value of sales increased by 3.3% when compared with the previous three month period, while volume was up 3.5%.

Although that more positive view comes with the kicker of an apparent slowing which is rather familiar to followers of the Italian economy. The annual comparison has slowed from the 30% growth of the previous month but of course such figures are very distorted a bit like being in a hall of mirrors at a fun fair.

Year on year, value of retail trade continued its growth, increasing by 13.3% and volume sales grew by
14.1% comparing to May 2020, when non-essential retail stores were partially closed due to pandemic
restrictions.

But we can learn something from this.

Despite the growth, in May 2021 total retail
sales levels for both value and volume were still lower than pre-pandemic levels of February 2020.

The May volume index was at 99 where 2015 was 100. So volumes are below where they were when the index was set and if we look at May 2019 at 99.4 slightly below it. This is rather different to the chart presented because it is for values and not volumes. Italy has had some sales growth since 2015 but in essence the inflation seen takes it away as we convert to volumes. So we are back in “Girlfriend in a coma” territory.

The pattern of changes is similar to elsewhere it is just there is less of it in total.

Looking at the value of sales for non-food products, all sectors witnessed growth apart from Computers and
telecommunications equipment (-4.0%). The largest increase were reported for Clothing (+82.3%) and
Shoes, leather goods and travel items (+59.7%).

National Accounts

At the beginning of the month we learnt that the numbers suggested the situation would be better now.

Gross disposable income of consumer households increased by 1.5% with respect to the previous quarter, while final consumption expenditure decreased by 0.6%. As a consequence, the saving rate was 17.1%, 1.8 percentage points higher than in the last quarter of 2020. In real terms, gross disposalble income of consumer households increased by 0.9%.

So there is money available to be spent.

Whilst we are here we can note that the state has been supporting the economy too.

In the first quarter of 2021 the GG net borrowing to Gdp ratio was 13.1% (10.6% in the same quarter of 2020).

Taxes were 41.6% of GDP but expenditure was 54.8%. This leads us to the national debt which was 155.8% of GDP at the end of 2020 and as of April was 2.68 trillion Euros.

Trade

This is something that at first sight looks a positive highlighted by the most recent data.

In May 2021 the trade balance with non-EU27 countries registered a surplus of 4,767 million euro compared
to the surplus of 4.114 million euro in May 2020; excluding energy, the surplus was equal to 7,681 million
euro, up compared with a 5,201 million euro surplus in May 2020.

The annual comparisons are of course distorted but my initial point is that Italy has run a consistent surplus. We have to go back to April for the full figures including the EU but we remain at this point with what looks like a success economy via its trade surplus.

As ever care is needed because exports have risen since the Euro area crisis but there is a familiar point about under performance here. That is in this instance relative to its peers. But we do see weak internal demand from the pattern of retail sales we looked at earlier and that would feed into imports.

This brings us to one of the debates which is between whether it is good to have a trade surplus or a deficit? The answer mostly comes from the Talking Heads lyric “How did I get here”. A surplus can indicate a competitive economy and there are parts of the Italian economy that deserve that moniker. But in a 2018 paper from the LSE it was suggested that things may have hit trouble there. The emphasis is mine

Importantly, we find evidence that misallocation has increased more in sectors where the world technological frontier has expanded faster when, in the wake of Griffith et al, we measure the speed of technological change in a sector by the average change of R&D intensity in advanced countries. Relative specialisation in those sectors explains why, perhaps surprisingly, misallocation has increased particularly in the regions of Northern Italy, which traditionally are the driving forces of the Italian economy.

In terms of scale the issue was/is very significant.

With these definitions in mind, we study the universe of Italian incorporated companies over the period from 1993 to 2013. We find strong evidence of increased misallocation since 1995 (see Figure 3). If misallocation had remained at its 1995 level, aggregate TFP in 2013 would have been 18% higher than its current level. This would have translated into 1% higher GDP growth per year, which would have helped to close the growth gap with France and Germany.

TFP is their productivity measure or Total Factor Productivity.

Maybe it is linked to this issue.

Comment

The European Commission has just released an upbeat forecast starting with something not often written about Italy’s economy.

Economic activity proved more resilient than expected and increased slightly in the first quarter of this year,
despite stringent containment measures.

They now think this.

Performance data from the manufacturing sector and business and consumer surveys suggest that real GDP growth gained further momentum in the second quarter and should strengthen markedly in the second half of the year. On an annual basis, real GDP growth is expected to reach 5.0% in 2021 and 4.2% in 2022. The forecast for 2021 is significantly higher than in spring.

However one hope seems to be struggling if the retail sales numbers are a guide.

Private consumption is expected to rebound sizeably, helped by improving labour market prospects and the gradual unwinding of accumulated savings.

The overall picture looks very Japanese doesn’t it as we note the national debt, trade surplus and weak domestic demand? That brings us back to the Turning Japanese theme.

The Financial Times is bullish, however.

By April, goods exports were 6 per cent above January 2020 levels — the strongest growth rate of any major eurozone economy, compared with rates of less than 1 per cent in France and Germany. As a result, Italy’s goods trade surplus has surged since the start of the pandemic.

Although it is nice to see Italy outperform for once.

This is helping to ease the economic impact of the pandemic. Italy was the only major eurozone economy to grow in the first quarter of this year. Its output expanded by 0.1 per cent from the previous three months; by contrast, the eurozone as a whole logged a contraction of 0.3 per cent.

The problem for Italy remains that it does not grow much more than that in the good times.

The Reserve Bank of Australia decides to look away from surging house prices

We have an opportunity to take a look at a land which is both down under and a place where beds are burning, at least according to Midnight Oil. This is because the latest central bank to emerge blinking into the spotlight is the Reserve Bank of Australia or RBA. Here is its announcement.

  • retain the April 2024 bond as the bond for the yield target and retain the target of 10 basis points
  • continue purchasing government bonds after the completion of the current bond purchase program in early September. These purchases will be at the rate of $4 billion a week until at least mid November
  • maintain the cash rate target at 10 basis points and the interest rate on Exchange Settlement balances of zero per cent.

Perhaps they thought that announcing the interest-rate decision last would take the focus off it. A curious development in that who expects a change anyway? A sort of equivalent of an itchy collar or guilty conscience I think. Along the way they have reminded us that they also have a 0% interest-rate and I guess most of you have already figured that it of course applies to The Precious.

Exchange Settlement Accounts (ESAs) are the means by which providers of payments services settle obligations that have accrued in the clearing process.

As someone who has spent much of his career in bond markets I rather approve of starting with a bond maturity but what is taking place here is a little odd. This is because as time passes their benchmark of April 2024 is shortening as for example it is now 2 years and 9 months. For example that is below the minimum term that the Bank of England will buy ( 3 years) and also central banks have in general been lengthening the terms of their QE buying arguing that such a move increases the impact.

If you think the above is an implicit way of cutting QE there is then the issue that it has been extended until November although with around a 20% reduction in the rate of purchases. That is similar to the Bank of England.

As ever they think they can get away with contradicting themselves because the economy needs help apparently.

These measures will provide the continuing monetary support that the economy needs as it transitions from the recovery phase to the expansion phase.

But only a couple of sentences later it is apparently going great guns.

The economic recovery in Australia is stronger than earlier expected and is forecast to continue. The outlook for investment has improved and household and business balance sheets are generally in good shape.

So do all states of the economy require support these days?

The Economy

The latter vibe continues as we note this.

National income is also being supported by the high prices for commodity exports.

That boost may well carry on if the analysis in The Conversation turns out to be accurate.

The panel expects actual living standards to be higher than the bald economic growth figures suggest.

This is because high iron ore prices boost Australians’ buying power (by boosting the Australian dollar) and boost company profits in a way that isn’t fully reflected in gross domestic product.

In recent months, the spot iron ore price has been at a record US$200 a tonne, a high the budget assumes will collapse to near US$63 by April next year as supply held up in Brazil comes back online.

The panel is expecting the iron ore price to stay high for longer than the Treasury — for at least 18 months, ending this year near a still-high US$158 a tonne.

So a windfall for Australia although they have omitted the “Dutch Disease” issue where the higher Aussie Dollar they mention deters other sectors of the economy such as manufacturing.

Another signal is going well according to the RBA.

The labour market has continued to recover faster than expected. The unemployment rate declined further to 5.1 per cent in May and more Australians have jobs than before the pandemic.

There may even be hope for some wages growth.

Job vacancies are high and more firms are reporting shortages of labour, particularly in areas affected by the closure of Australia’s international borders.

Although later it appears to think it will take quite some time.

The Bank’s central scenario for the economy is that this condition will not be met before 2024. Meeting it will require the labour market to be tight enough to generate wages growth that is materially higher than it is currently.

House Prices

The situation is in rude health from a central banking perspective.

Housing markets have continued to strengthen, with prices rising in all major markets. Housing credit growth has picked up, with strong demand from owner-occupiers, including first-home buyers. There has also been increased borrowing by investors.

Well if you will pump it up as we note that “investors” are on the case.

The final draw-downs under the Term Funding Facility were made in late June. In total, $188 billion has been drawn down under this facility, which has contributed to the Australian banking system being highly liquid. Given that the facility is providing low-cost fixed-rate funding for 3 years, it will continue to support low borrowing costs until mid 2024.

This is a type of copy cat central banking where the RBA has copied the policy which has juiced the UK housing market. Looking at the credit data there is a lot of investor activity as total mortgage credit for that category was 669 billion Dollars at the end of May as opposed to 1.258 trillion for owner-occupiers.

Anyway here is the consequence.

CoreLogic’s monthly home price index rose 1.9 per cent in June, led by 3 per cent growth in Hobart and 2.6 per cent in Sydney.

The index rose 13.5 per cent over the past financial year just ended, with Darwin (+21pc), Hobart (+19.6pc), Canberra (+18.1pc) and regional markets (+17.7pc) leading the way.

That is the strongest annual rate of growth recorded by CoreLogic nationally since April 2004.

Inflation

Switching to the supposed target then things are in hand as long as you ignore the above.

In the central scenario, inflation in underlying terms is expected to be 1½ per cent over 2021 and 2 per cent by mid 2023. In the short term, CPI inflation is expected to rise temporarily to about 3½ per cent over the year to the June quarter because of the reversal of some COVID-19-related price reductions a year ago.

Comment

There are quite a few familar themes here as we note that even recoveries these days need support rather than the old standard of taking away the punch bowl just before the party gets really started. I think we can safely say that the housing  market has the volume turned up if not to 11 very high. This means that for central bank action we return to the prophetic words of Glenn Frey and Don Henley of The Eagles.

“Relax, ” said the night man,
“We are programmed to receive.
You can check-out any time you like,
But you can never leave! “

There is an Australian spin in the way that all roads here seem to lead to 2024. Is that a type of release valve? It looks like that at first but there is a catch. We have seen that central banks may reduce the rate at which they buy bonds under QE but they never reverse it. The one main effort by the US Federal Reserve was followed by it buying ever more. In the end central banking roads have so far ended at this destination.

Come on let’s twist again,
Like we did last summer!
Yeaaah, let’s twist again,
Like we did last year! ( Chubby Checker )

Where next for the economy of France?

Sometimes we find that one segment of news does fit more than one piece of the economic puzzle. This morning that has come from La Belle France.

In May 2021, output decreased in the manufacturing industry (–0.5%, after –0.1%), as well as in the whole industry (–0.3%, after +0.1%). Compared to February 2020 (the last month before the first general lockdown), output remained in sharp decline in the manufacturing industry (–6.9%), as well as in the whole industry (–5.6%). ( INSEE )

Late spring saw a couple of declines in manufacturing which caught out the forecasters mostly I would imagine because of this.

The easing of COVID-19 lockdown restrictions contributed
to a further strong improvement in business conditions in
the French manufacturing sector during May. Output and
new orders both increased at accelerated rates. ( Markit IHS PMI)

In fact they went further.

The seasonally adjusted IHS Markit France Manufacturing
Purchasing Managers’ Index® (PMI®) – a single-figure
measure of developments in overall business conditions –ticked up to 59.4 in May from 58.9 in April, signalling a further substantial improvement in business conditions in the French manufacturing sector, and one that was the most marked since September 2000.

A reading of the order of 60 is supposed to be up,up and away growth not the contraction that was seen. Just in case it was some sort of quirk they rammed the output point home.

The trend in new orders was matched by that for output, with production increasing at the sharpest pace since January 2018.

Car Production

There was no magic bullet here as the main issue came from an area one should have been expecting after all the reports about chip shortages causing problems for modern vehicles, which use so many of them.

In May, output fell back sharply in the manufacture of transport equipment (–5.4% after –0.8%) due to shortages of raw materials in the automotive industry.

Manufacturing for the transport sector in France peaked in December of last year when it made 94.1 where 2015 equals 100. Since then it has been downhill with a very sharp fall of the order of 10 points in February and now we are at 76.2.

In terms of a breakdown we have this which compares to pre pandemic levels.

It slumped in the manufacture of transport equipment (−29.7%), both in the manufacture of other transport equipment (−30.0%) and in the manufacture of motor vehicles, trailers and semi-trailers (−29.2%).

So it is this sector with a little help from a 13.3% fall in the fuel sector that fas dragged things down. The other areas have done much better with some even managing a little growth.

Compared to February 2020, output declined more moderately in “other manufacturing” (−4.0%) and in the manufacture of machinery and equipment goods (−4.4%). Output was above its February 2020 level in mining and quarrying, energy, water supply (+1.9%) and in the manufacture of food products and beverages (+0.9%).

There have been some wild swings with of course the annual figures looking quite a triumph until you see what they are being compared with.

Over this one-year period, output bounced back sharply in the manufacture of transport equipment (+46.1%), in the manufacture of machinery and equipment goods (+35.4%) and in “other manufacturing” (+30.4%).

Overall Economy

After the above you might like to take the next bit with a pinch of salt as we see what Markit IHS tell us from their latest survey on the French economy.

We’ve witnessed a complete quarter of growth for the first
time since the pandemic began, and the growth
momentum needed to drive a sustained recovery is
likely to build as pent-up demand is released and operating capacities expand.

Bank of France

Its projections are upbeat and tell us this.

After dropping markedly in 2020, French economic activity is experiencing a strong rebound in 2021. Following a start to the year marked by ongoing public health restrictions, the phased lifting of the lockdown and acceleration of the vaccination campaign should allow the economy to recover in earnest in the second half. According to our economic surveys, economic activity started to recoup lost ground in the second quarter, despite the emergence of supply difficulties in certain sectors. It should rebound particularly strongly in the third and fourth quarters, as the gradual easing of the public health restrictions leads to strong household consumption growth.

In terms of specific numbers we get this.

In 2021, GDP is projected to expand by 5¾% in annual average terms (which is higher than the euro area average of 4.6%). It should then grow by 4% in 2022 and by 2% in 2023

Which means this.

Activity should start to exceed pre-Covid levels as of the first quarter of 2022, which is one quarter earlier than foreseen in our March projections.

A lot of this is  the by now familiar idea of the savings that have been built up mostly involuntarily will be spent.

The strong GDP growth should essentially be driven by domestic demand in 2021 and 2022, both from consumption and investment. Household purchasing power was on the whole preserved in 2020, and should start to rise again in 2021 and 2022. Household consumption and investment spending are expected to accelerate further in 2022 thanks to the excess savings accumulated previously.

They are a little more specific here and as they do not say the savings ratio was previously 4-5%.

and the household saving ratio should decline from 22% in the second quarter of 2021 to 17% in the final quarter of the year, and then to below its 2019 level in 2022 and 2023

We can also put this “wave” in terms of Euros.

After reaching EUR 115 billion at the end of 2020, the financial savings excess is expected to rise at a more moderate pace in 2021, thanks to the fall in the household saving ratio , and should peak at up to EUR 180 billion at end-2021.

Inflation

If we remain in the territory of the Bank of France there are various different stories in play. It tells us this.

Inflation as measured by the Harmonised Index of Consumer Prices (HICP) has risen significantly in recent months, climbing from 0.8% in February 2021 to 1.6% in April 2021.

We can update that to 1.8% in May continuing the upwards move which Isabel Schnabel of the ECB wants more of.

higher inflation prospects need to visibly migrate into the baseline scenario, and be reflected in actual underlying inflation dynamics,

Well it can be found in the Markit survey.

Finally, survey data revealed intensifying price pressures
during June. Cost inflation reached a 17-month high,
linked to greater supplier fees and shortages of inputs. The
combination of strong demand and rising expenses led firms to hike their selling charges in June. Furthermore, the rate of output price inflation was the steepest in almost a decade.

Or if they take a look at the cost of buying a house.

In Q1 2021, the house prices in metropolitan France continued to rise, but slowed down a bit: +1.3% compared to the previous quarter with seasonnally adjusted (s.a.) data, after +2.3% in Q4 2020. Year on year, house prices increased this quarter (+5.5% after +5.8%).

Comment

The situation is officially positive backed up by today’s PMI survey. But the official manufacturing data driven by the problems in the transport sector suggest a doubt. To that we can add this.

PARIS, July 4 (Reuters) – Health Minister Olivier Veran on Sunday urged as many French people as possible to get a COVID-19 vaccine, warning that France could be heading for a fourth wave of the epidemic by the end of the month due to the highly transmissible Delta variant.

That would be awkward just after this.

France lifted the last of its major restrictions on Wednesday, allowing unlimited numbers in restaurants, at weddings and most cultural events, despite fast-rising cases of the Delta variant. ( the national news)

So we wait and see what happens next especially in these areas.

and the start of a return to normal in tourism and aeronautics, France’s stronghold export sectors ( Bank of France)

Podcast

Will UK inflation exceed 5%?

The last 24 hours have seen the inflation debate move on in the UK and some of that has happened in the last ten minutes as the speech by Governor Andrew Bailey has been released. Many of the issues are international ones and trends so let me open by taking a look at what the Riksbank of Sweden has announced today.

Both in Sweden and abroad, the recovery is proceeding slightly faster than expected and the Riksbank’s forecasts have been revised up somewhat.

So like the Bank of England it has been caught out but its view attracted my attention because it is somewhat different.

Inflation has varied to an unusually large degree during the pandemic. This is partly due to energy prices but also to measurement problems and people’s changed consumption patterns during the pandemic. Inflationary pressures are still deemed moderate and it is expected to take until next year before inflation rises more persistently.

Not the inflation technicalities which are a generic but the fact they expect it next year which is different to the US view for example of “transitory” from now. We already ready know from one Fed member that “transitory” has gone from 2/3 months to 6/9 but more next year is a different view. Also “persistently” is the sort of language that will get you banned from central banking shindigs.

Andy Haldane

The Bank of England’s chief economist gave us his view on inflation trend yesterday which started with philosophy.

The first, nearer-term, is discomfort at whether continuing monetary stimulus is consistent with central banks hitting their inflation targets on a sustainable basis.

The fact he is publicly asking the question means he thinks it isn’t. But then we get the gist of his views for 2021.

With public and private financial fuel being injected into a macro-economic engine already running hot, the result could well be macro-economic overheating. When resurgent, and probably persistent, demand bumps up against slowly-emerging, and possibly static, supply, the laws of economic gravity mean the prices of goods, services and assets tend to rise, at first in a localised and seemingly temporary fashion, but increasingly in a generalised and persistent fashion.

As you can see he too uses the word “persistent” and does so twice, which is about a revolutionary as a 32 year bank insider can get I think. Then we see significantly added into the mix.

This we are now seeing, with price surges across a widening array of goods, services and asset markets. At present, this is showing itself as pockets of excess demand. But as aggregate excess demand emerges in the second half of the year, I would expect inflation to rise, significantly and persistently.

Actually aggregate excess demand is not what it was. What I mean by that is the change to us predominantly being a service economy means that there is a much wider range of responses to demand now.

For instance, hairdressing and personal grooming inflation was strong in particular, at an annual rate of 8%, and saw a 29 year high.

This is one example ironically in a way from Governor Bailey’s speech where there is a clear limit as hairdressers can work harder but only so much. Whereas other areas in the services sector may not be far off no limits at all. Oh and after him being on TV during the England game versus Germany I suspect we are onto the 2021 look now.

Pent-up demand, essential need, or recreating the early 1990s David Beckham look, I leave that to others to judge.

Returning to Andy Haldane his musings lead him to conclude this.

By the end of this year, I expect UK inflation to be nearer 4% than 3%. This increases the chances of a high inflation narrative becoming the dominant one, a central expectation rather than a risk. If that happened, inflation expectations at all maturities would shift upwards, not only in financial markets but among households and businesses too.

That has been reported as 4% which is not quite what he said but by the time one converts it from CPI to Retail Prices Index ( a 1%+ rise as for example it was 1.2% in May) we arrive at the 5% of my headline.

What does Governor Bailey think?

The opening part of the section on the economic recovery illustrates something of a closed mind on the subject.

what conclusions can we draw on the temporary nature of the causes of higher inflation

The next bit is a type of PR after thought.

and what should we look out for to judge if those causes might be more sustained?

Under his plan we look set to go to stage four of the Yes Minister response which is “It’s too late now”. One area where there is plenty of inflation is in the use of the word temporary.

There are plenty of stories of supply chain constraints on commodities and transport bottlenecks, much of which ought to be temporary.

Those dealing in shipping costs seem much less clear about that.

International #container #freight rates cont. their almost vertical ascent with the Drewry global composite rising to $8k some 6X the normal rate. Routes out of China surging on #SupplyChains disruptions, some temporarily triggered by Covid-19 outbreaks reducing loadings ( @Ole_S_Hansen)

Another problem is that the Bank of England has under estimated both the UK economy recovery and consequent inflation.

CPI inflation rose to 2.1% in May, just above the MPC’s target and above where we thought it would be in the MPC’s May forecast.

In the May forecast they said it would be below 2% in both the second and third quarters. I do not know about you but I would not be assuring people inflation will be temporary when these are in play.

 Further up the supply chain, food input prices were up, and producer input inflation was around a 10-year high.

Also if we look at the absolute disaster area the concept of rebalancing was for his predecessor it is brave and perhaps courageous to deploy it again.

Over time, this should lead to an easing of inflation as spending is redirected towards sectors with more spare capacity. But, initially, that rebalancing may be uneven.

I note that he is already tilling the ground should he be wrong.

His first point is no more than stating he might be wrong ( rather likely on his track record). Next up we get this.

Second, we could see demand pressures on either side of the most likely outcome.

Then.

Third, we could also see wage pressures arising if the number of people in work or seeking work does not return to pre-Covid levels, and inactivity remains at a higher level. A return of labour supply is therefore important.

The last sentence is rather curious in the circumstances. And finally.

Fourth, a further challenge would arise if these temporary price pressures have a more persistent impact on medium-term inflation expectations, which shift to a higher level inconsistent with the target.

That is a type of psychobabble as it is based on what exactly?

Comment

We have here the two main courses of the inflation debate with a side order from the Riksbank. The main debate has been about this year and it is the first to break ranks about 2022.  If we start with the Governor’s view we see the asymmetry problem repeated yet again.

It is important not to over-react to temporarily strong growth and inflation, to ensure that the recovery is not undermined by a premature tightening in monetary conditions.

So if things go well you wait and if they are not going well you wait too, oh hang on.

Over the last sixteen months we have used monetary policy decisively to respond to an unprecedented crisis which was disinflationary.

Decisively on one side and on the other “we watch” is the new “vigilant”.

But it is also important that we watch the outlook for inflation very carefully, which of course we do at all times, particularly for signs of more persistent pressure and for a move of medium term inflation expectations to a higher level.

There is also an elephant in the room that everyone seems to be ignoring in the same manner as the UK inflation target does. So let us remind ourselves of how we started Tuesday.

Annual house price growth accelerated to 13.4% in June,
the highest outturn since November 2004. While the
strength is partly due to base effects, with June last year
unusually weak due to the first lockdown, the market
continues to show significant momentum. Indeed, June saw
the third consecutive month-on-month rise (0.7%), after
taking account of seasonal effects. Prices in June were almost 5% higher than in March. ( Nationwide).

Also remember inflation will be higher when the tax cuts ( VAT and Stamp Duty) expire.

Let me end with some good economic news via Sky but with the kicker that it is in an area that has proved highly inflationary.

Nissan announces £1bn ‘gigafactory’ boosting electric car production and creating thousands of jobs.

Euro area house prices surge to new records

The European Central Bank ( ECB) finds itself between something of a rock and a hard place at the moment. For a while things were relatively easy as it eased monetary policy and went with the flow. But due to the nature of the Euro area economy it has found the phases of reversing course and tightening policy more difficult. If we look back as far as 2010/11 there were the two interest-rate increases which then collided with the Euro area crisis. More recently we saw the end of the QE programme at the end of 2018 which only lasted until the autumn of 2019 when Mario Draghi restarted it as a leaving present to his replacement Christine Lagarde. In itself that was an issue as he was effectively setting monetary policy for her first year or so allowing her to gain an understanding of her newr ole. That plan however was torpedoed by the Covid-19 pandemic,

Now the ECB looks across the Atlantic as the US Federal Reserve tries to negotiate a change of emphasis whilst facing its own problems. President Lagarde found herself under fire on a familiar issue on Monday in the European Parliament.

Christine Lagarde, the ECB’s president, was questioned about the risks in the housing market at a hearing in the European Parliament on Monday.
“Young people and middle-class families are forced to participate in a rat race, overpaying in an overheated housing market,” said Michiel Hoogeveen, a Eurosceptic Dutch MEP. “This is one of the consequences of your generous money creation and low interest policies to keep weaker eurozone countries afloat.” ( Financial Times )

It is typical FT to add the “Eurosceptic” moniker as everyone faces the same house prices. Yesterday in fact brought us up to date on the state of play in the Netherlands.

Dutch House Price Boom

In May 2021, owner-occupied dwellings (excluding new constructions) were on average 12.9 percent more expensive than in the same month last year, representing the largest increase since May 2001.  ( Statistics Netherlands)

This has created a new record high although as you can see that is tucked away a bit.

House prices reached a low in June 2013; they have followed an upward trend since then, reaching a new record level in May 2021. Compared to the low in June 2013, house prices were 66.8 percent higher on average in May.

The June 2013 low is revealing because we see that date as being a pretty consistent turning point for many housing markets around the world. But returning to the Netherlands we see that house price growth has been over 5% for several years now. That is awkward for ECB apologists because it acted to pump things up when prices were already really rather heated. Indeed if we look at the timing of ECB action this is rather revealing from the Dutch statisticians.

 The price rise moderated in 2019 but picked up again in 2020

We could add and accelerated in 2021.

The Lagarde Response

The first response to a problem is invariably a denial and according to the FT that is what we got.

In response, Lagarde said there were “no strong signs of [a] credit-fuelled housing bubble in the euro area as a whole” but she added that there were “residential real estate vulnerabilities” in some countries and some cities in particular.

As you can see she was already trying to protect herself and the next stage in that is to deflect the blame onto someone else.

“The disconnect between housing prices and broader economic developments during the pandemic entails the risk of price corrections,” Lagarde said, calling for macroprudential policies — such as national limits on mortgage lending — to be “designed carefully”.

What has raised house prices?

We see another denial and with house prices rising like they are it is hard not to laugh at the use of “potential side effects”

Lagarde: Negative interest rates have often been criticised because of their potential side effects. Our assessment continues to be positive as the benefits continue to outweigh the costs. ( @lagarde)

Just as a reminder the Deposit Rate is at -0.5% and banks can access funding via the TLTROs at -1%, and they have been accessing it.

Decent ECB TLTRO take-up of €110bn (8th such operation, with two more to go). Total TLTRO rising to €2190bn (€2216bn including PELTROs). ( @fwred)

Sorry for the alphabetti spaghetti, but the point here is that we have seen credit easing on a large scale and the UK experience is that the road is paved with denials but it is a road which leads to the housing market.

Then there is all the QE bond buying with an extra 1.85 trillion Euros ( PEPP) added to the pre-existing 20 billion a month.

The ECB view

It was no surprise to see a report on this issue but even the ECB cannot avoid stating this.

 Year-on-year house price growth increased from 4.3% at the end of 2019 to stand at 5.8% in the last quarter of 2020 – the highest growth rate since mid-2007.

They have a good go at hiding it by translating it into central banker speak though.

Aggregate euro area house price dynamics have remained robust during the coronavirus (COVID-19) pandemic.

The first tactic is to point the blame at some thereby excluding others.

Germany, France and the Netherlands accounted for around 73% of the total increase in the last quarter of 2020 (Chart A), which is more than their weight in the overall house price index.

For the more thoughtful there is the clear implication that ECB policy is not one size fits all as they are effectively telling us policy has been too loose for Germany.

In the case of Germany, the positive contribution to euro area house prices started in mid-2010, also reflecting some catching up after a period of subdued house price developments.

But whatever the intellectual twists and turns they cannot avoid eventually agreeing with me.

Third, loans for house purchase continued to grow in 2020 and financing conditions remained favourable, with the composite lending rate for house purchase at an all-time low of 1.3% at the end of 2020.

Note they place it third though! After all the author Moreno Roma has a career to think of.

The hext effort to divide and conquer hits an inconvenient reality.

The recent resilience of the housing market appears to be broad-based and not limited to capital cities.

Also the trend seen in the UK of a move towards the country may also be in play although so far the numbers are low.

According to ECB estimates, in the course of 2020, euro area house prices in selected capital cities increased 0.7 percentage points less, year on year, than the euro area aggregate……. The observed rise in house prices outside capital cities may also reflect a preference shift associated with increased possibilities for working from home.

Comment

There is quite a bit to consider here and the ECB will have been doing this at its retreat in the hills near Frankfurt last weekend. We have looked at a signal of inflation today and it is not the only one. Let me hand you over to the Markit PMI report from this morning.

Average prices charged for goods and services
meanwhile rose at by far the fastest pace since
comparable data for both sectors were first
available in 2002, with prices rising in each sector
at rates not exceeded for approximately two
decades.

Inflation is on the march above and below we are told more is on the way.

Average input prices rose at a rate exceeded only
once (in September 2000) over the 23-year survey
history. A record increase in manufacturers’
material prices was accompanied by the steepest
increase in service sector costs since July 2008,
the latter reflecting widespread reports of higher
supplier prices, increased fuel and transport costs
plus rising wage pressures.

Some might think this is a clear signal of what to do next for an inflation targeting central bank which is supposed to look around a couple of years ahead. But instead we get this.

Lagarde: Inflation has picked up over recent months in the euro area, largely owing to temporary factors, including strong increases in energy prices. Headline inflation is likely to increase further towards the autumn, continuing to reflect temporary factors.

If we return to the subject of including owner-occupied housing in the inflation measure it is quite a hole. I still recall ECB chief economist Lane telling us up to a third of expenditure went on an area ignored by the inflation numbers. But caution is the watch word because as recently as 2018 the ECB abandoned the plans to do so after wasting a couple of years or so of those of us following its progress.

UK Inflation posts a warning as it rises above target

Today has brought something of an inflation warning for the UK as we note this from earlier.

The Consumer Prices Index (CPI) rose by 2.1% in the 12 months to May 2021, up from 1.5% to April; on a monthly basis, CPI rose by 0.6% in May 2021, compared with little change in May 2020.

The first thing to note is the monthly increase of 0.6% which means that we have now gone 0.3%, and 0.6% twice which is a signal of acceleration in inflation. That is I think more significant than the 2.1% reading although it does have significance for the Bank of England. If you heard a loud sigh of relief from Threadneedle Street this morning it will have been from Governor Andrew Bailey who now looks to be clear of the phase when he had to write an explanatory letter for inflation being more than 1% below target. However it does present a problem because this afternoon the Bank will but another £1.15 billion of UK bonds to boost UK inflation. That is now somewhat awkward when it is boosting inflation which is above target.

Continuing the theme of inflation above target there are these two variants of the inflation measure.

The annual rate for CPI excluding indirect taxes, CPIY, is 3.8%, up from 3.2% last month…….The annual rate for CPI at constant tax rates, CPI-CT, is 3.8%, up from 3.2% last month.

I point this out continuing the Bank of England theme because they have been keen on using such variants in the past when they fit their views. So I will leave it to your imagination whether they will be pointing this out! As a matter of fact UK inflation would be quite a bit above target without the temporary tax cuts. Maybe not the full amount as these things are not always fully passed on but it would be over 3%.

What is driving the move?

The biggest factor was transport.

where prices rose by 0.3% between April and May 2021, compared with a fall of 1.0% between the same two months of 2020. The effect was principally from motor fuels, with the price of petrol rising by 1.7 pence per litre this year, compared with a fall of 2.8 pence per litre a year ago as prices reached a four year low of 106.2 pence per litre in May 2020. Similarly, diesel prices rose by 1.5 pence per litre this year,

Next comes two categories which have proven very difficult to measure over time.

There was also a large upward contribution of 0.15 percentage points from recreation and culture, where prices rose by 1.2% between April and May 2021, compared with a fall of 0.1% between the same two months a year ago.

This is because the main movers here were computer games and music ( downloads and CDs) where this happens.

It is equally likely to be a result of the CDs, DVDs, music downloads and computer game downloads in the relevant bestseller charts. Price movements for these items can often be relatively large depending on the composition of these charts.

That is not well explained. Essentially prices are high when in the charts but are then discounted heavily and that is not easy to capture properly in an inflation measure. That principle applies to the next category where the advent of ever more fashion clothing with newer retailers like Primark reacting fast means prices can go from (relatively) top dollar to being discounted very quickly.

The rise this year has been influenced by a fall in the amount of discounting recorded in the dataset between April and May,

So with that warning we have this.

Clothing and footwear contributed 0.13 percentage points to the change in the CPIH 12-month inflation rate. Prices, overall, rose by 2.3% between April and May this year, compared with a smaller rise of 0.3% between the same two months a year ago

The Trend

The moves in producer prices have been harbingers of the consumer inflation rise and the beat goes on.

The headline rate of output prices showed positive growth of 4.6% on the year to May 2021, up from positive growth of 4.0% in April 2021.

The headline rate of input prices showed positive growth of 10.7% on the year to May 2021, up from positive growth of 10.0% in April 2021; this is the highest the rate has been since September 2011.

Some of the move is the result of the plunge in oil prices last year.

Petroleum products had the highest annual growth rate of any component of output prices in May 2021, at 67.0%

However if we bring things up to date we see that right now the price of crude oil is rising again. Yesterday for example the price of a barrel of Brent Crude Oil went above US $74 yesterday for the first time since April 2019. As we look around we see some things going the other way as Lumber for example has fallen back somewhat after the surges we saw in previous weeks and months. But in terms of the overall picture the 1.1% monthly rise in UK input inflation continues the 2021 trend of it being around 1% every month. So as Hard-Fi put it.

Pressure
Pressure
Pressure, Pressure, Pressure
Feel the pressure

Housing Costs

This area continues to be quite a problem. So let me start with what is officially claimed to be the most comprehensive measure of UK inflation.

The Consumer Prices Index including owner occupiers’ housing costs (CPIH) rose by 2.1% in the 12 months to May 2021, up from 1.6% to April…….On a monthly basis, CPIH rose by 0.5% in May 2021, compared with little change in May 2020.

It’s problem is the bit which is claimed to make it so comprehensive.

The OOH component annual rate is 1.5%, up from 1.4% last month. ( OOH = Owner-Occupiers Housing )

There are probably amoeba on Jupiter smelling a rat here because the issue of rising house prices has been in the news everywhere. Indeed it has been official policy to pump them up via the Stamp Duty Cut for example. Even the official house price series illustrates that.

UK average house prices increased by 8.9% over the year to April 2021, down from 9.9% in March 2021.

Average house prices increased over the year in England to £268,000 (8.9%), in Wales to £185,000 (15.6%), in Scotland to £161,000 (6.3%) and in Northern Ireland to £149,000 (6.0%).

So if we take a broad sweep we see that house price rises of 10% or so become the much more friendly 1.5% or so via the use of Imputed Rents. They assume owners pay themselves rents in a methodology which is going spectacularly wrong all around the world right now. It is amazing that it has not been questioned more. There is a British spin to this because our official statisticians have so little faith in the reliability of the rental data they collect they “smooth” it. This means that the number above is really last years rents rather than May’s.

Comment

We are receiving something of an inflation warning in the UK as we note that we have nudged above the 2% target and would be above 3% without the indirect tax cuts. Another way of putting this is to replace the fantasy imputed rents in the official measure CPIH with a something which is paid which is house prices. Doing so gives a 3.5% reading if you use current house prices.

The irony is this means that our past measure of inflation the Retail Price Index is giving a better guide to the state of play.

The all items RPI annual rate is 3.3%, up from 2.9% last month……..The annual rate for RPIX, the all items RPI excluding mortgage interest payments (MIPs), is 3.4%, up from 3.2% last month.

If we take an international perspective we can be grateful that for once we are not at the front of the pack. Why is the US at 5%.If we put aside different measures.  Looking into it the rise in the price of “Gasoline” is much more marked there due to lower taxes as it is up 56%. Also used car prices have surged (29.7%) and that is different to our experience. Yes we have a marked monthly rise ( 1.2% in May) but it only has a weight of 0.12% so the impact is minor. Also the stronger period for the UK Pound £ has helped this year.

Meanwhile perhaps Scotland has given us a clue about what might happen when the Stamp Duty Cut full expires.

The slowdown in house price growth in Scotland may have been driven by the end of the Land and Buildings Transaction Tax holiday on 31 March 2021.