Eurozone stuck in a high risk deflation area; Draghi expects further price plunge

Jyrki Katainen, European commissioner in charge of Economic and Monetary Affairs and the Euro speaks at the plenary session of the European Parliament in Strasbourg about resource efficiency in the EU (Copyright: © European Union 2015 EP).

Jyrki Katainen, European commissioner in charge of Economic and Monetary Affairs and the Euro speaks at the plenary session of the European Parliament in Strasbourg about resource efficiency in the EU (Copyright: © European Union 2015 EP).

This newspaper has been following very closely the Eurostat statistics, including inflation, which paint an accurate picture of Eurozone’s economic condition. Then, not without good reason, during the last few months or even years the European Sting didn’t share the reserved optimism of Brussels about euro area’s prospects and unfortunately Eurostat confirmed this prediction once more. Last Wednesday EU’s statistical service published its flash estimate for September inflation anticipated to have returned to the negative part of the chart at -0.1%. There is more in it though.

Last Friday Eurostat also published its estimate about industrial producer prices found to have dived in August deeply in the negative area with a -0.8% reading. This crucial statistic was again in the negative area during the past difficult years. Throughout the hard winter of 2014-2015 domestic producer prices in manufacturing kept falling for many months in a row.

A dreadful descent of prices

This tendency culminated in December 2014 with a -1.2% reading, hopefully marking the end of the bad times. Since February 2015 this key statistic evolved rather positively for a few months possibly fuelling encouraging thoughts in Brussels. Unfortunately, it turned  negative again in June 2015 with a narrow fall of -0.1%, but this new unfavorable development continued in July with a drop of -0.3% and, as mentioned above, in August with a -0.8%. The deterioration tendency is easy to observe.

Let’s return to the headline consumer price inflation. Understandably, Eurostat’s flash estimate for September is dragged below the zero line by the deep fall of the price of energy. The statistical service says that in September the sub categories of consumer goods prices evolved as follows: Processed food, alcohol & tobacco 0.6%, non energy industrial goods 0.3%, energy -8.9% and services 1.3%. Obviously the energy items have hauled the overall consumer goods inflation to the negative area.

It’s not only energy

This fact has been used by many policy makers and analysts to argue that the Eurozone doesn’t really run any deflation (negative inflation) danger. The idea is that energy is by and large an exogenous factor for the euro area economy, while its proper endogenous price structure is safely anchored in the positive part of the chart. Exactly at this point though a very structural statistic enters in the equation and makes things not so staightforward. This is the domestic industrial producer price index.

Domestic industrial producer prices have a long negative record to show as described above. Despite the fact that cheaper energy inputs may allow domestic industrial producers to sell their products at lower prices, the truth remains that their share in the income distribution shrinks. This is done to the benefit of other sectors, like the services. These other sectors of the economy favored by continuous increases of their selling prices keep gaining an increasing part of the gross domestic income, to the detriment of industry while the overall picture remains deflationary. There is nothing positive in this arrangement especially for the core of the Eurozone economy which undoubtedly is the manufacturing sector.

It’s the industry stupid

As things stand now over the last few months Eurozone entered again in the danger area on both accounts. Both the headline inflation became negative and the domestic producer prices in manufacturing kept falling for many months in a row. And this flagrant deterioration occurred despite the fact that the European Central Bank has injected more than €600 billion into the economy in applying its extraordinary monetary measures (on 25 September 2015 the amount of securities held by the ECB for monetary policy purposes stood at €631bn ).

In short, Eurozone is still in the high risk deflation area, while the latest free money allocation to the banking sector by the ECB (hundreds of billions of it) doesn’t seem to make a difference. The banks continue playing a negative role as during the past years. Even the President of ECB Mario Draghi seemed quite alarmed when he plainly stated on 3 September, “We may see negative numbers of inflation in the coming months”.

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