US and euro zone inflation were at identical 2.7% y/y rates in March; core inflation was 1.2% versus 1.3% but given this same set of inflation dynamics, the ECB has already raised interest rates once and is likely to do so again this summer while the Fed sees an alibi to complete QE2 and postpone any exit from ultra loose policy. Why the difference? Firstly, Fed officials focus on core inflation and dismiss the commodity surge as transient, while ECB officials target headline inflation, and worry that higher energy and food prices will amplify via “second round” effects, namely higher wages and retail prices.
? Secondly, the ECB is now focused on the structural shift in imported merchandise inflation from China , which the Fed is blithely ignoring, despite Chinese manufactured import prices rising at an annualized rate of 5.2% in Q1, the fastest pace since August 2008. Lastly, economic ‘slack’ in Germany versus the US in terms of unemployment (7.1% versus 8.8%) and industrial capacity utilisation (85% versus 77%) raises the risk of wages chasing CPI higher. One country where a little overdue inflation is welcome is Japan, where the corporate goods price index in March rose for the sixth month in a row and at the fastest pace in more than two years, accelerating from a 1.7% gain in February.
? The CGPI generally lags changes in the country's output gap by about 6 months and leads CPI changes by the same duration. In April, Japanese firms generally revise prices at the start of the new fiscal year and surging input costs, the post quake disruption and the monetary response to it should all underpin inflationary momentum. For the first time since May 2009, the proportion of rising prices in the index composition exceeded that of falling. While everyone is focused on the Fed and ECB, the BOJ has recently been the key player in driving risk assets. Yen intervention reignited the carry trade last month as the balance sheet of the BOJ leapt by $275bn, sending high yielding bond and currency markets from Turkey to Australia surging. However, one problem I highlighted at the time was that the liquidity injection was short dated; it has since fallen $70bn and on current policy will continue to decline to pre quake levels in coming months, a liquidity withdrawal exceeding the remaining QE2 purchases.
? Secondly, the ECB is now focused on the structural shift in imported merchandise inflation from China , which the Fed is blithely ignoring, despite Chinese manufactured import prices rising at an annualized rate of 5.2% in Q1, the fastest pace since August 2008. Lastly, economic ‘slack’ in Germany versus the US in terms of unemployment (7.1% versus 8.8%) and industrial capacity utilisation (85% versus 77%) raises the risk of wages chasing CPI higher. One country where a little overdue inflation is welcome is Japan, where the corporate goods price index in March rose for the sixth month in a row and at the fastest pace in more than two years, accelerating from a 1.7% gain in February.
? The CGPI generally lags changes in the country's output gap by about 6 months and leads CPI changes by the same duration. In April, Japanese firms generally revise prices at the start of the new fiscal year and surging input costs, the post quake disruption and the monetary response to it should all underpin inflationary momentum. For the first time since May 2009, the proportion of rising prices in the index composition exceeded that of falling. While everyone is focused on the Fed and ECB, the BOJ has recently been the key player in driving risk assets. Yen intervention reignited the carry trade last month as the balance sheet of the BOJ leapt by $275bn, sending high yielding bond and currency markets from Turkey to Australia surging. However, one problem I highlighted at the time was that the liquidity injection was short dated; it has since fallen $70bn and on current policy will continue to decline to pre quake levels in coming months, a liquidity withdrawal exceeding the remaining QE2 purchases.
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