European Fears: Deflation

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European leaders may have felt a momentary brief lapse in the wary feeling of disdain that has existed between them for years now, but that was once exacerbated by the financial crisis and the entire PIGS- story that ensued, with the debt crisis. But the moment was fleeting as they sat round tables and spoke via special diplomatic communiqués as to what they should do (or not do, as the case may be) over the arch–enemy to that myth that is called ‘democracy’, Vladimir Putin. But, all of that was fleeting, secondary, peripheral and unlasting. They have greater divisional problems over the horizon and this time it’s the fear of deflation. It won’t be a fleeting moment, but a fleeing moment for them to leave the EU.

Eurozone inflation has now fallen to an all-time low for the past 52 months (March 2014) and this is now increasing the pressure that the European Central Bank will be forced to act to keep deflation at bay. There will be a Monetary Policy Meeting that is going to take place on Thursday April 3rd.

• Consumer prices increased by 0.5% year-on-year in March as shown in figures released today by Eurostat. 
• Core inflation dropped to 0.8%.
• It had previously stood at 1%
• Analysts had expected it to be at 0.6%
• The rise was 0.7% in February.
• As a consequence, the Euro immediately fell this morning against the Dollar; although it did get back the ground that had been lost by early morning.
• It is currently 0.26% up, standing at S1.3788.

Consumer prices have risen therefore at their slowest pace since November 2009. The European Central Bank has a current target of 2%. The figures are now fuelling fears that deflation is only round the corner and whatever happens the European Central Bank will not be able to change the onset of that pressure on the economy. There have been warnings now that the EU risks deflationary pressure in its economies for months now.

Is the EU drifting towards deflation (Japanese –style)? Probably. At least, it looks like that. Just a few days ago, figures announced showed that Spain had falls in its prices and inflation was edging down in Germany. 10-year government bonds in Portugal (moving inversely with prices) dropped under 4% and that was the first time in four years.

Even before the figures that have just been released the pressure was on at the ECB with radical action to counter the problem needed. It is doubtful if the ECB will unveil any plans however immediately regarding a bond-buying program. But, there is increasing likelihood that quantitative easing is in sight right now. Economists are now saying that the ECB will have no other choice than to go down the long and lonely path of easy money. What the US did, Europe does and follows suit…later, but they end up doing it all the same. Get the printing presses rolling!

If Spain, which seems to be the most worrying case at the moment, has a high risk of deflation while it is trying to gain some competitiveness through maintaining lower wages, then procrastination by the ECB will not be the perfect answer to the problem. The country as all of Europe is laboring under heavy debt and public sector debt there is about 200% of GDP. Spain also has until 2016 to get its deficit under 3% (as imposed by Brussels). Figures released show that it has already missed the target of 6.5% today (standing at 6.6%). Deflation can only make things worse.

If they don’t do anything and Draghi turns into Dragh-ing on with the decision-making over deflation, then people will stop buying hoping that prices will decrease even further, which is what will happen…and so the circle, vicious as it is, continues its cycle. Unemployment figures will be published tomorrow and that may influence the ECB too.

Europe is sleepwalking into catastrophe and neither the European Central Bank or the Merkels and the Hollandes and certainly not the Camerons of this struck Union will be able to get themselves out of the predicament that they have gotten themselves into. Goodbye Europe and hello deflation. But the UK is still rejoicing that the minimum-wage increases will outstrip inflation for the next few years, “provided the economy continues to improve” (to use the words of the UK’s Low Pay Commission chairman, David Norgrove). Not certain that we have the same definition of “continues to improve” and secondly it’s hardly difficult to outstrip inflation when it turns into deflation. But bring on the deflation, rejoice, and come all ye faithful. Quantitative Easing is on its way. The markets will be rejoicing.

Originally posted: European Fears: Deflation