Euro area "flash" HICP unrevised as expected. Our thoughts on energy, food and NEIG prices
15.10.10 12:59

The euro area final HICP did not provide any surprises versus our and market expectations. The "flash" reading was unrevised at 1.8% y/y in September from 1.6% printed in August. The HICP-ex tobacco was also close to our expectations, rising to 109.77 (BarCap: 109.74) from 109.54. At the core level, the "Eurostat" core inflation measure was reported as being stable at 1.0% y/y (as we and the consensus had expected) versus August.


Energy prices: large contribution to the headline y/y, though their role over the medium term is unsure

The headline increase was partially led by a 0.3% m/m increase in energy prices, which caused the inflation rate to rise to 7.7% y/y from 6.1% y/y, in line with our expectations. We calculate that, despite having retrenched since May when the inflation rate was 9.3% y/y, energy prices have contributed 0.7pp to the headline HICP in September. Within the energy component, petrol prices stood at 10.9% y/y from 8.5% y/y previously, while heating oil prices rose to 23.1% y/y from 18.2% y/y. We don't expect energy prices to be the predominant theme behind the inflation outlook in the euro area over the medium term. In fact, despite recent increase in oil prices, the possibility of further strength in the USD/EUR exchange rate is likely to prevent an aggressive filtering of global commodity prices into euro area energy prices. Indeed, we have already seen some upward correction in the euro nominal TWI exchange rate which has already recovered 6.6% from the trough of 99.9 reached in June last year, possibly also reflecting the latest pricing of QE2 likely to be implemented by the Fed.


Food prices: we continue to see them as an upside risk over the medium term

Food prices were reported as rising 0.1% m/m, causing the inflation rate to rise to 1.3% y/y from 1.2% y/y (BarCap: 0.3% m/m, 1.4% y/y). As the ECB noted in its latest bulletin, there has been little sign of pass-through from the recent strong increases in food commodity prices into food price inflation. That said, certain products which are more exposed to global prices, such as grain mill and animal feed products, have risen sharply. We continue to expect food prices to remain a source of upside risk though, since (as we have pointed out previously) the effect of food commodity prices tends to be felt at the consumer price level 6-8 months later. Considering that tensions started mounting in August, we expect to see stronger evidence of this from the end of this year onwards. That said, we would reiterate the message that another sharp rise in food prices as in the 2007-2008 period is unlikely to happen, mainly on account of global supply conditions of food commodities which remain accommodative enough to offset an eventual shortfall in production due to adverse weather conditions. Within the food component, though, it is worth noting that unprocessed foods are leading the recovery of the food price component by rising to 2.5% y/y (BarCap: 2.8%), while processed foods continue to rise, although at a lower pace (0.04% y/y in September; BarCap: 0.1% y/y).


Domestic demand is likely to continue to move NEIG prices sidelines

Labour market conditions are likely to dampen private domestic demand for a while in the euro area. We see this as the main reason why non-energy industrial goods prices are likely to be at 0.4% this year and next, reflecting our view that the unemployment rate is not going to change much up until the end of next year (9.6%) versus this year (10%). In September, NEIG prices rose 1.8% m/m, taking the annual rate to 0.6% y/y, still 0.2pp below its long-term average.


Underlying pressures

Our own measure of underlying pressures, the BarCap underlying measure, has increased to 1.1% y/y in September after being around 1% since June last year. As we said in our preview yesterday, we see this as the signal that underlying price pressures in the euro have stabilised. That said, mainly because of domestic demand conditions, we think that our Underlying measures are likely to continue moving around these levels until the end of next year.



source: BarCap
 
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