Normally, the release of the eurozone inflation data isn’t that much of an event for the markets.
This is because we get the result from the publication of the major EU economies’ CPI figures in the days ahead. Traders already know what the results are most likely going to be, and there are rarely any surprises.
However, just because the data release doesn’t cause immediate volatility, that doesn’t mean it won’t have an impact on the general direction of the currency.
And, given the current environment, it will perhaps, more importantly, affect stocks. A substantial portion of the stock gains has been based on a combined expectation of low interest rates and higher inflation in the medium term.
What the ECB might do
There has been an interesting trend over the last several weeks. Specifically, the hawks on the policy committee have been largely silent, while the doves have been quite active in public. The most notorious hawk is Weidmann, and he hasn’t addressed monetary policy in over three weeks.
Although this is unofficial, it might be a way for the ECB to project a certain stance to the markets without actually changing its views. That said, if the market sees repeated commentary from the doves, it can give the impression that the ECB will keep rates low and continue asset purchasing.
How high can inflation go?
The latest dove to make an appearance was Lane, who went so far as to say that the ECB is happy with the increase in inflation. Furthermore, he repeated a comment that is frequent among ECB speakers: that interest rates are low along the curve.
The suggestion appears to hammer home the idea that the ECB will remain accommodative for a long time, perhaps years.
The last “hawk” to speak was Holzmann nearly a week ago, and even he repeated the notion that interest rates will remain low. This suggests that inflation rates can move substantially higher before the ECB will factor them into their outlook.
So, should we care about inflation?
Perhaps the key to the puzzle is in an offhand remark by Holzmann. In fact, he stated that the Fed’s taper would put pressure on the ECB.
Why is that? Because it would presumably raise yields in America, sending cash flows towards that side of the Atlantic. A weaker euro might help with the economic recovery, but it would weigh on inflation.
This could pose a problem further down the road for the ECB. Particularly in the midst of the post-pandemic recovery, they may not get inflation up to their target level.
Somewhat ironically, perhaps the reason to pay attention to inflation figures isn’t that they might trigger a reaction from the central bank if they are too high. Rather, if they don’t get high enough, it could be an indication of further liquidity issues throughout the winter and start of next year.
Economists project the eurozone monthly inflation to come in at 0.4% compared to -0.1% prior. On an annual basis, the prediction is to accelerate to 3.4% compared to 2.8% prior. Nevertheless, they expect the annualized key core Inflation rate to remain well below target at 1.6% compared to 0.7% prior.