Opposing forces in food price inflation

Inflation has long been the most important economic topic. Fortunately, inflation is falling, but that doesn't mean it will stay that way. Those who dig deeper sometimes come across remarkable figures. This week Eurostat published the final inflation figures for March. What struck me is the divergence between food price inflation in the Eurozone and the US.

The long-term correlation coefficient, calculated from food price inflation in the US and the euro zone from 2000 to the middle of last year, is approximately 0,70. However, the first picture shows that there is currently divergence. It is not clear what exactly causes this. It seems to me most likely that the divergence is driven by the divergent development of energy prices last year. Food prices follow energy prices, albeit with a lag and with some 'noise'. European gas prices rose much more than in the US last year and that is now likely to translate into higher food price inflation. The good news, however, is that the gas price that has fallen since September will also lead to lower food price inflation in the Netherlands in the foreseeable future. fingers crossed.

The global economy is still reeling from the pandemic and its aftershocks. This goes hand in hand with apparently contradictory developments. China's GDP grew by 2,2% quarter-on-quarter and 4,5% year-on-year in the first quarter. That was slightly more than predicted. Last week, Chinese exports in March turned out to have grown much more vigorously than expected. In that month, retail sales also exceeded expectations. These were 10,6% higher than a year earlier. In February that had been 3,5%. Now that Chinese consumers are allowed to go to the shops again, they are apparently seizing the opportunity with both hands.

Production in manufacturing grew somewhat less quickly than expected: 3,9% year-on-year in March against 2,4% in February. The latter does raise the question of how the export figures can be reconciled with the production figures, you cannot export what you do not produce. I suspect that many of the exported goods were already waiting. I also suspect that production growth will pick up further.

The reopening of Chinese society is an important development for the global economy this year. Last year China grew by only 3%, this year it is planned to grow by around 5%. I think we can safely assume that this objective will be achieved. Although there are problems in the real estate sector, policymakers will do everything possible to achieve the growth target. After all, the government has an implicit agreement with the Chinese people. The Chinese can count on a steady improvement in their standard of living. In return, they accept that they are politically repressed, that the Communist Party is in charge, one Big Brother-like control and that they be imprisoned at the discretion of the regime. The latter was very successful last year, the former (improving the standard of living) less so. That really has to change.

Incidentally, strong Chinese foreign trade data in March seem to be confirmed by trade figures elsewhere. For example, the value of Singaporean exports (excluding oil) rose by no less than 18,4% in March compared to February. Naturally, China is an important sales market.

US: mixed signals
In the US, the signals are less exuberant. While the Empire State Index, which measures business confidence in the District of the Federal Reserve of New York, rose sharply in April (from -24,6 in March to +10,8), the Philly Fed's comparable measure actually fell from -23,2 in March to -31,3 in April, the lowest level since 2020. The Philly Fed Index seems to me to paint a more representative picture than the Empire State, because the data from the Philly Fed survey seems more consistent to me. vote with other signals.

The labor market weakens further. In the week of April 15, 245.000 people applied for unemployment benefits. These applications are now well above the level of the last quarter of last year. While becoming unemployed is obviously annoying for those involved, it may be good for the inflation outlook. The job market is tight. This leads to higher wage increases, which threatens to keep inflation high. Some relaxation of the labor market is therefore welcome. We will see. That can sometimes be disappointing. I wonder if companies will quickly lay off their people if business weakens. They have been able to find those people with the greatest possible difficulty. It seems to me more likely that they will be reluctant to layoffs. In that case, wage growth may moderate, but in that case the increase in productivity will fall back and unit wage costs will continue to rise sharply, with all the consequences for inflation. In the last four quarters, unit labor costs in the US have risen on average by more than 6%. That has to come down a long way to be consistent with 2% inflation over the longer term.

Not very shocking in the Netherlands
Consumer confidence in our country turned slightly less negative again in April: -37 against -39 in March. The chart shows that consumer confidence is still exceptionally low from a historical perspective. At the same time, consumer spending is quite strong. Apparently, the consumer is fed up with something, which is evidenced in surveys but not in purchasing behaviour. The high inflation is an obvious explanation, but the many difficult political issues may also play a role.

The Dutch labor market remains tight. Although unemployment increased by 1.000 persons in March compared to February and by 30.000 persons compared to March last year, the unemployment rate was stable at 3,5%. In March last year it was 3,2%. What is striking is that the labor participation rate is higher than before the pandemic. In the US that is not the case. More and more people are entering the Dutch labor market. The working population has increased by 2,5% in one year. And the number of people employed by 2,3%.

Where is the global economy headed?
This week's macroeconomic news is inconclusive about exactly where the global economy is headed. China seems to be gaining steam, the US seems to be weakening somewhat and we are messing around a bit.

Such a divergence is unusual and cannot last very long. After all, developments in one block influence those elsewhere and vice versa.

There are currently strong but opposing forces that determine the economic cycle. The sharp fall in energy prices since the middle of last year is a strong positive impulse for activity. The Chinese reopening is on top of that. On the other hand, interest rates have risen sharply in the past fifteen months and interest rate rises are reflected in the economic cycle with a lag. For the time being, this will give a negative impulse for a while and the interest rate rise itself may not have come to an end yet. The fact that banks are becoming increasingly critical when granting credit is also dampening activity.

Although I have a reputation for being generally positive (a former ABN Amro executive once called me 'optimist to the core'), I now think that the negative forces will eventually prevail, although that will take some time.

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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