Eurozone: HICP inflation to turn negative, composite PMI to signal slow pace of activity
Ahead of the ECB’s press conference at the end of the month, the eurozone flash December HICP print, due out on 7 January, will be widely watched. We expect HICP inflation to dip into negative territory for the first time since June 2009, with a -0.1% y/y print, with the risks tilted to the downside.
The fall in annual inflation will be mainly driven by a 6.3% y/y fall in energy prices on the back of a sharp fall in euro denominated oil prices on the month (Chart 3). We estimate that this will shave 0.4pp off the headline rate. The preliminary Spanish December HICP, at -1.1% y/y (down from -0.5% in November), provided support to this view. We are likely to see the same happening across Europe, we believe. Looking at the two other main components, we forecast annual food price inflation to moderate slightly due to base effects. Core HICP inflation, meanwhile, should remain broadly stable at around 0.7% y/y.
The inflationary downtrend is set to continue. First, retail prices are usually surveyed a little earlier in the month in December (because of the holidays), which means that only the early part of the December oil-price decline has likely been captured in the December index. Second, crude prices have continued to fall, which means a further negative energy contribution to the January index is likely. Some factors may offset the oil price drag somewhat, such as the colder winter weather and consequent higher prices for fresh food, but we doubt they will be enough to offset it entirely. Overall, we currently expect HICP inflation to fall by 0.3% y/y in January.
On the activity front, the slight downward revision to December’s eurozone manufacturing PMI (from 50.8 to 50.6) suggests risk of a downward revision to the composite index (due out on 6 January). December’s preliminary reading (of 51.7) brought Q4’s average down to 51.6, from 52.8 in Q3. Although activity should gradually recover on the back of lower oil prices and the depreciation of the euro, the current PMI data are consistent with our forecast of a meagre 0.1% q/q rise in Q4 GDP.
Together with exceptionally low inflation, this supports the case for more monetary policy stimulus. We continue to expect the ECB to announce a broader-based asset purchase programme at its meeting on 22 January, including sovereign bond purchases. The ECB president Mario Draghi’s interview with the German Handelsblatt last week supports this view. In particular, Mr Draghi highlighted that “the risk that we do not fulfill our mandate of price stability is higher than six months ago. We are in technical preparations to adjust the size, speed and compositions of our measures early 2015, should it become necessary to react to a too long period of low inflation. There is unanimity within the Governing Council on this”.
