Eurozone inflation turns negative for the first time ever

by Frederik Ducrozet, Credit Agricole SA

> Eurozone HICP flash estimate declines from 0.0% to -0.1% in June.
> Eurozone inflation is set to edge lower in the coming months but the recent rise in oil prices should partly offset favourable base effects.
> The ECB could take comfort from the fact that deflation fears have receded. We expect the ECB to reiterate that rates are at an “appropriate” level during its policy meeting on Thursday.

DETAILS & ANALYSIS

Eurozone HICP flash estimate declined slightly less than expected to -0.1% YoY in June, down from 0.0% in May (consensus: -0.2%; Calyon: -0.1%). Although no detail has been published with this preliminary estimate, we expect HICP to have risen 0.3% from the previous month on higher energy prices and a 0.2% MoM pick-up in core prices. From a national perspective, inflation remained stable in Germany at 0.0% YoY in June while the harmonised index edged lower in Spain from -0.9% to -1.0% YoY.

Both headline and core inflation remain somewhat volatile at the moment but we expect the gradual deceleration in core prices to continue in the second half of this year in response to the growing slack in the economy and the recent developments in pipeline price pressures. We look for core inflation to ease around 1% by year-end.

We continue to look for slightly negative inflation numbers during the summer, but the short-term outlook has been affected by the prospect of higher commodity prices. As a consequence, the low point for HICP should remain close to the 0% mark (around -0.2% in July our current forecast). In any case, inflation is expected to rise quite sharply in Q4 to above 1% YoY. This, in turn, could give an indication of the magnitude of the revisions the ECB staff is likely to make to its June projection, which are based on oil futures prices. We believe that the average inflation forecast for 2009 is likely to be revised up from 0.3% to 0.4% (our current forecast) as well as for 2010 (from 1.0% to close to our own forecast of 1.4%).

MARKET REACTION

The prospect of negative inflation rates during the summer was already priced in by the market so neither the EUR/USD nor European bond prices showed any strong pattern following the release. EUR/USD is likely to remain trapped between firm support around 1.3888 and resistance at 1.4269 as the market remains in its usual waiting stance ahead of the non-farm payrolls and the ECB meeting on Thursday. Regarding the latter, we continue to expect a status quo on both the conventional and the unconventional monetary policy decisions.


Frederik Ducrozet
Economist

dang, I wonder what the implications on monetary policy are going to be from this. In general I view the ECB to be a bit more conservative in terms of monetary policy, but with negative inflation I'm sure this gives them more room to be aggressive in tackling the econ woes (especially the Euro zone is lagging behind both the US and UK in terms of "green shoots") .

Maybe it would be a good idea for someone to explain the difference between negative inflation vs deflation? Just food for thought.

-Snapman

Well Done Trichet ! Fight the inflation, fight the inflation, now it's negative...

Sauros wrote:

Well Done Trichet ! Fight the inflation, fight the inflation, now it's negative...