Experts predicted at the beginning of this difficult 2022 that inflation in Europe and the United States would already be on track to return to the 2% target at this point in the year. With the sun heating the houses of the northern hemisphere, the lower energy bill should be noted. Thus, the inflationary tensions that arose last year would relax and everything would be left in a scare. Nothing further. This Thursday the ECB raised the CPI forecast this year to 6.8% – in May it marked 8.1% in the eurozone – and the OECD, a day earlier, placed average inflation for this year at 8.1 %.
As a disclaimer for such gross errors that firstly placed inflation as a transitory phenomenon, on February 24 Russia invaded Ukraine and the already existing tensions in energy and food were triggered by sanctions and restrictions on the purchase of oil and gas. of the power that governs Vladimir Putin.
Prices mark levels not seen in four decades. In the US, the CPI reached 8.6% in May; 8.7% in Spain and the eurozone marked 8.1%, with 14 countries above 8%. A widespread phenomenon in the world that has in Turkey or Argentina the most advantaged students in terms of rising inflation. Europe is already preparing a rate hike for July and both the United States and the United Kingdom have an advantage in this tightening of monetary policy. Bert Flossbach, co-founder of the financial firm Flossbach von Storch, points out some of the causes of this inflationary pressure: “The rise in energy prices, the increase in the cost of substituting fossil fuels and the security of energy supply, the increase of defense spending and the reorganization of supply chains are putting pressure on national budgets and driving up prices,” he says.
Thus, from the discourse of transitoriness, it has changed to that inflation will be a heavy burden for the economies for many more months, although there is a certain consensus that the highest levels have already been seen. Even so, not even the forecasts for a slowdown in the economies with recession as the most extreme scenario indicate, for the time being, a containment of prices. Analysts at Goldman Sachs indicate in a recent study that inflation in the United States has probably already peaked, while in Europe it will peak in the next two or three months. “According to our new figures, euro area inflation remains above the ECB’s target until 2023.” And this past Thursday, the ECB itself reaffirmed this forecast by expecting an average inflation of 3.5% for next year and 2.1% for 2024.
Martin Wolburg, Senior Economist at Generali Investments, says “we expect eurozone inflation to remain around these levels in the coming months. War-related energy and food price hikes have contributed to more than half. But underlying inflationary pressure will also remain very high: producer prices rose by 37.2% year-on-year in April. Lastly, negotiated wage growth accelerated to 2.8% year-on-year in the first quarter, the highest in more than 10 years,” he explains. Bert Flossbach also points to the growing bottlenecks “in the German labor market, which will continue to worsen in the coming years due to the retirement of many baby boomers, which will continue to accelerate the rise in wages.”
An idea reinforced by Peter Lindahl, senior manager of the Nordic manager Evli Fund Management, referring to the United States. “In the spring of 2021, we started to see high inflation numbers coming out of the US, and then the same thing happened in Europe in the summer. Inflation was expected to rise, but it was surprising how quickly it did. One of the triggers has been the very high growth in wages, which now stands at around 5%”, he concludes. In Goldman Sachs they also warn of these strong labor tensions: “Inflation expectations of households and companies have increased and the effects of the second round could prolong the inflationary problem, especially with the increase in wages due to the tightness of the labor markets. In the UK and US there are more jobs than workers at the moment”, he explains.
But within the components of the rise in prices, which is led by transport as a summary of energy problems (20% year-on-year rise in the US, 11% in Spain and 10.4% in the eurozone) with a weight also key to food, another key is housing. Even the Spanish Government decided last March to limit the increase in rent to 2% in the annual updates of housing rental contracts.
The brick also weighs in on the desired shift to lower inflation. Specifically, with regard to the United States, David Norris, head of US credit at the manager Twentyfour (Vontobel) warns that “it does not seem that inflation is going to subside with the same speed with which it has appeared”. And he considers the evolution of housing prices to be key. Median monthly rent in the US rose 15% year-on-year to an all-time high of $1,962 in April, according to data from brokerage firm Redfin. This data will be key to controlling prices in this economy”, he explains.
Companies have various strategies to deal with this historical inflation. There are numerous casuistry and it largely depends on the company’s ability to transfer these higher costs due to higher energy and raw materials to the end customer. Undoubtedly, in sectors that are very open to competition, transferring costs to prices is more complicated, which is why profit margins are reduced. In other sectors such as exclusive luxury or so-called utilities (public services) it is easier to transfer costs to the customer.
The Spanish textile multinational Inditex announced a 2% rise in its prices last March, just as the conflict in Ukraine began. The American distribution giant Wallmart announced a drop in profits despite managing to increase sales, which shows a reduction in its profit margins as a result of inflation. Paradoxically, the price increase also produces an automatic increase in sales. A very affected sector is also the steel industry. Antonio Freije, general director of ABB Spain, referred both to the difficulty of attending to the contracts already signed due to the lack of raw materials and to the increase in price of the same. “This is going to be a year marked by cost management, because rising prices and product restrictions can reduce business volume and profit margins,” he explains.
As a consequence of this situation, there is also an increase in sales in the private labels of the different supermarkets and the appearance of the so-called reduction, which consists of maintaining the price but at the cost of offering less product to the customer. A strategy recognized by the manufacturer of Doritos, Unilever, or the giant General Mills. They are the ways to deal with a sharp rise in prices, trying to have the least impact on the profits of the companies.
Rate hikes to combat inflation are already underway. But the question is whether these measures will ultimately have an effect on prices. Analysts distinguish between Europe and the US: the former has inflation resulting from a lack of supply with strong tensions in energy prices that will worsen without the purchase of Russian gas, while on the other side of the Atlantic there is more demand inflation since “US households are in possession of a lot of extra liquidity,” explains Peter Lindahl.
Vincent Chaigneau, head of research at Generali Investments Partners, argues that much of the rise in global prices is due to supply-side issues that central banks cannot control. “The Federal Reserve, the ECB and other banks still have to show their teeth to prevent rising inflation expectations from spiraling into wage and price spirals and a persistent trend of price premiums,” he concludes. Bert Flossbach also indicates that central banks have their hands tied. “Especially the ECB has very little room to raise interest rates; in any case, not to the level that would be needed to fight inflation successfully. That is why we are at the beginning of a long stage of clearly negative rates”. And he adds: “Current indebtedness is much higher than in the past. For the eurozone, a rate hike of 2% or 3% would already be problematic, and above that it would be dangerous”.
Thus, the so-called second-round effects have already entered to participate in the rise in prices and the central banks will not be able to have all their artillery to stop it. A vision that leads Goldman Sachs to rate inflation high and sticky for the coming months with levels of up to 4% for the United States at least until mid-2023.