Energy prices push inflation down

Statistics Netherlands has confirmed Dutch inflation for March at 4,4%. A lot lower than the 8,0% in February, not to mention the 14,3% in October. That is good news. The bad news is that the fall was entirely due to energy prices. Excluding energy, inflation was stable at 8,1%. The benchmark officially known as core inflation (ie excluding food, energy, alcohol and tobacco) was stable at 6,7%. Food is the main culprit. That category was responsible for almost half of the 4,4%, while it only has a weight of 12% in the inflation basket.

The rate of increase in the price of food was virtually the same as in February: 17,8%. This puts us on a par with neighboring countries. In Germany, the price level of food was even slightly higher: around 22%. In Belgium and France it was approximately 17% and 16% respectively.

We should not expect a sharp further fall in inflation in the coming months as prices fell slightly in the period April to June 2022. This was followed by four months of very strong monthly price increases last year. Then our inflation could fall sharply and I wouldn't be surprised if we were to fall below zero.

There are two factors that can throw a spanner in the works. First, the oil price. Due to the turmoil in the banking system and the related fear of a recession, it actually fell in the first half of March. But now the price has risen more than 20%. A further increase is quite possible if it is driven by OPEC+'s decision to limit production and increased demand from China after the end of the many lockdowns. A further increase in the oil price would be very annoying and could give a new impulse to inflation.

A second factor that could stand in the way of 'negative inflation figures' in the autumn is the fact that Statistics Netherlands will switch to a different series for inflation in June. When calculating the figures, it is now assumed that people have to conclude a new contract with their energy supplier every month. That is not the case and certainly was not the case last year. Then the inflation numbers overestimated the actual price increases that people were facing as a result. This year, the current series is likely to underestimate inflation. The new series could therefore be quite a bit higher from June.

US inflation is falling
Inflation is also falling in the US. In March it was 5,0%, compared to 6,0% in February. Core inflation rose marginally to 5,6% in March, after 5,5% in February. Unlike here, 'food price inflation' in the US has been falling for months. It stood at 8,5% in March. 9,5% was booked in February and the peak was 11,4% in August last year.

The main reason why core inflation has been hovering around 6% for a while and doesn't seem to want to go down is because of rents. They have a weight of 34% in the total inflation basket and make up more than 43% of core inflation. In the US, rents are following house prices, albeit with a significant lag. In March the increase in rents increased further: 8,2% against 8,1% in February. Since house prices have been falling since the middle of last year, a turning point in rents is probably close. If they start to fall as I expect, then core inflation can also decrease considerably.

Capital market interest rates have fallen recently under the influence of fears of a recession and the expectation that the Fed will not raise interest rates much further. The US housing market is very sensitive to interest rate fluctuations. The following graph shows that the recent fall in mortgage market interest rates has quickly led to an increase in the number of mortgage applications. If that gives a boost to house prices, my story about less inflation as a result of rents may not hold.

However, the overall picture of the business cycle may have a moderating effect on inflation. The next picture shows that US SMEs are reducing investment plans. This is probably related to the increased uncertainty and the reduced availability of bank credit.

The US labor market also appears to be weakening. In the week of April 8, 239.000 new claims were made for unemployment benefits. That is not a worrying level, but still the highest since the beginning of last year.

Chinese exports surprised
As I have reported many times, the reopening of Chinese society is one of the most important influences on the development of the global economy this year. The elaborate festivities surrounding the Chinese New Year always have a major impact on business activity in China. Insight into this in the statistics is made more difficult because the New Year does not fall on the same date every year. Until now, the picture about the reopening of the economy was not clear. Entrepreneurs in the service sector have become much more optimistic, but their colleagues in industry have become much less optimistic. Industrial production also did not seem to increase sharply. As a result, the foreign trade figures in March came as a complete surprise. In that month, the value of Chinese exports was no less than 14,8% higher than a year earlier. In January/February (one figure is published for those two months), a minus of 6,8% was recorded. From October the statisticians had written red numbers. The geographical differences were very striking. Exports to ASEAN countries grew by more than 35%, those to Russia even by 136%. More than 3% more was exported to the EU, but exports to the US and Taiwan fell sharply, with -8% and -28% respectively. Chinese imports also improved, albeit less spectacularly: -1,4% year-on-year, compared to -10,2% in January/February.

If these figures are a harbinger of a recovery in activity in China, it could provide further impetus to oil prices. But let's not get too ahead of ourselves, it may be that the sharp increase in exports has been caused by the reduction of logistical problems, which meant that goods that had already been produced could now be shipped with a delay.

Inflation picture is cloudy
The inflation picture is currently murky. Energy prices are pushing inflation down, but that could change if the oil price rise of recent weeks continues. And it could just as well now that OPEC+ has cut production and recent data suggests that Chinese economic activity may recover strongly after all.

In the coming months, inflation figures will also be strongly influenced by base effects. In our case, they allow little further fall in inflation over the next three months, but all the more in the four months after that. In the US it is more or less the other way around. Moreover, rents play an important role there and I think that the rate of increase will slow down in a few months.

The outlook on the business cycle is also quite cloudy. There is reasonable momentum, even with us, where the service sector is the main driver. Continued recovery in China will also have a positive impact on the global economy. Yet there are also signs of weakness. For example, the tightness in the American labor market is clearly abating. And don't forget that the effects of the interest rate hikes of the last twelve months are far from having their full effect on the business cycle. In addition, banks in the US and Europe are tightening their lending conditions, usually a precursor to an economic downturn. fingers crossed.

Hans de Jong

Han de Jong is a former chief economist at ABN Amro and now a resident economist at BNR Nieuwsradio, among others. His comments can also be found on Crystalcleareconomics.nl

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