ECB Banksters warned they must take immediate and pre-emptive action to head off the risk
of full-blown deflation by next year.
By
Ambrose Evans-Pritchard: All key measures of eurozone inflation fell dramatically in October, stunning
the markets and leaving the region dangerously close to a Japan-style
deflation trap.
Consumer price inflation (CPI) plunged from 1.1pc to 0.7pc, the lowest since
the financial crash in 2008-2009. “This is a massive downward surprise,”
said Gizem Kara from BNP Paribas.
A string of debt-crippled states are now sliding into deflation, with Italy
buckling over the late summer. The underlying rate is even lower once
austerity-linked tax rises are stripped out
The shock data came as EMU-wide unemployment jumped to a record 12.2pc in
September, with a further 74,000 people losing their jobs. Youth jobless
rates reached 40.2pc in Italy, 57.6pc in Greece and 56.6pc in Spain.
“This is playing out in a very similar way to Japan in the early 1990s,” said
Albert Edwards from Societe Generale. “All it needs now is an unexpected
recession and Europe will slide into outright deflation. The risk is a trade
shock from Asia. That is when the markets will start to panic."
The euro tumbled a cent to below $1.36 against the dollar as investors began
to price in a quarter-point rate cut by the European Central Bank as soon as
December.
A former ECB governor said the bank’s passive stance over the past few months was a “disaster” for Italy and Spain. The time-lag effects mean that serious damage has already been done.
“It is incredible that they have missed their 2pc target by so much. This risks driving the periphery into protracted depression and could destroy the eurozone. Credit conditions are far too tight. The ECB should cut rates to zero, extend thee-year financing for banks and relax collateral rules,” he told The Telegraph.
“What scares me is that the ECB seems to be formulating policy for Germany without any regard for everybody else. It has been captured by Germany. What is so bizarre is that the old Bundesbank would not have let this happen,” he said.
Even German inflation is at a three-year low of 1.4pc. Prices fell 0.4pc in Bavaria and 0.3pc in Saxony in October. While the Bundesbank has been fretting about a local house price boom, the average rise in property has been less than 3pc over the past three years.
Julian Callow from Barclays said the fall in the eurozone’s core inflation rate (without energy and food) to 0.8pc is evidence of powerful forces at work in the world economy. “China’s fixed capital investment reached $4 trillion last year. The sheer scale of this is leading to huge over-capacity in manufacturing and is transmitting a deflationary impulse through the global system,” he said.
“The ECB has to be very alive to the risks. Its treaty mandate is to support the 'general economic interests of the Union'. This means giving equal weight to jobs as the US Federal Reserve is doing.”
Mr Callow said the failure to act is allowing the euro to punch too high against the dollar, yuan and yen, exacerbating the deflationary effects and tightening the screw for struggling exporters in Southern Europe. The Bank of Japan has succeeded in driving down the yen with a blitz of monetary stimulus.
A report by the Bruegel think-tank in Brussels said the slide towards deflation may push Italy and Spain into a “runaway debt trajectory”. It lowers nominal GDP growth, causing debt costs to rise faster than the economic base, the “denominator effect”.
Bruegel said each one percentage point fall in inflation forces Italy to increase its primary budget surplus by an extra 1.3pc of GDP to stabilise debt. Italy is already targeting a sustained surplus of 5pc, a feat that no country except oil-rich Norway has pulled off in half a century.
The latest inflation data show Italy’s CPI rate fell by 0.3pc in both September and October, despite a rise in VAT taxes that should have pushed it higher.
Over the past three months, France, Italy, Spain, Portugal, Greece, Cyprus, Ireland, Slovakia, Slovenia, Estonia and Latvia have all seen price falls once extra taxes are stripped out. It is a similar pattern in Bulgaria, Romania, Hungary and the Czech Republic, with Poland and Denmark close behind. The entire region risks sliding into a deflation trap if recovery falters.
Hans Redeker from Morgan Stanley said the “Japanisation effect” in Europe is having perverse effects. The fall in inflation is automatically raising real interest rates, tightening the vice further in a vicious circle. “Deflation accidents usually happen when things seem cosy for while and central banks do nothing. Europe is now in a deflationary equilibrium but this could turn bad if there is any outside shock. We think this could come from Asia, probably a credit squeeze by China’s central bank,” he said.
“Japan was able to cope with deflation in the 1990s because it had a positive global income flows of 3pc of GDP. Europe does not have that advantage. The flows are negative,” he said.
Morgan Stanley said the ECB must take immediate and pre-emptive action to head off he risk of full-blown deflation by next year. Japan’s travails over the past 20 years show that is very hard to shake off the virus once it becomes lodged in the system.
A former ECB governor said the bank’s passive stance over the past few months was a “disaster” for Italy and Spain. The time-lag effects mean that serious damage has already been done.
“It is incredible that they have missed their 2pc target by so much. This risks driving the periphery into protracted depression and could destroy the eurozone. Credit conditions are far too tight. The ECB should cut rates to zero, extend thee-year financing for banks and relax collateral rules,” he told The Telegraph.
“What scares me is that the ECB seems to be formulating policy for Germany without any regard for everybody else. It has been captured by Germany. What is so bizarre is that the old Bundesbank would not have let this happen,” he said.
Even German inflation is at a three-year low of 1.4pc. Prices fell 0.4pc in Bavaria and 0.3pc in Saxony in October. While the Bundesbank has been fretting about a local house price boom, the average rise in property has been less than 3pc over the past three years.
Julian Callow from Barclays said the fall in the eurozone’s core inflation rate (without energy and food) to 0.8pc is evidence of powerful forces at work in the world economy. “China’s fixed capital investment reached $4 trillion last year. The sheer scale of this is leading to huge over-capacity in manufacturing and is transmitting a deflationary impulse through the global system,” he said.
“The ECB has to be very alive to the risks. Its treaty mandate is to support the 'general economic interests of the Union'. This means giving equal weight to jobs as the US Federal Reserve is doing.”
Mr Callow said the failure to act is allowing the euro to punch too high against the dollar, yuan and yen, exacerbating the deflationary effects and tightening the screw for struggling exporters in Southern Europe. The Bank of Japan has succeeded in driving down the yen with a blitz of monetary stimulus.
A report by the Bruegel think-tank in Brussels said the slide towards deflation may push Italy and Spain into a “runaway debt trajectory”. It lowers nominal GDP growth, causing debt costs to rise faster than the economic base, the “denominator effect”.
Bruegel said each one percentage point fall in inflation forces Italy to increase its primary budget surplus by an extra 1.3pc of GDP to stabilise debt. Italy is already targeting a sustained surplus of 5pc, a feat that no country except oil-rich Norway has pulled off in half a century.
The latest inflation data show Italy’s CPI rate fell by 0.3pc in both September and October, despite a rise in VAT taxes that should have pushed it higher.
Over the past three months, France, Italy, Spain, Portugal, Greece, Cyprus, Ireland, Slovakia, Slovenia, Estonia and Latvia have all seen price falls once extra taxes are stripped out. It is a similar pattern in Bulgaria, Romania, Hungary and the Czech Republic, with Poland and Denmark close behind. The entire region risks sliding into a deflation trap if recovery falters.
Hans Redeker from Morgan Stanley said the “Japanisation effect” in Europe is having perverse effects. The fall in inflation is automatically raising real interest rates, tightening the vice further in a vicious circle. “Deflation accidents usually happen when things seem cosy for while and central banks do nothing. Europe is now in a deflationary equilibrium but this could turn bad if there is any outside shock. We think this could come from Asia, probably a credit squeeze by China’s central bank,” he said.
“Japan was able to cope with deflation in the 1990s because it had a positive global income flows of 3pc of GDP. Europe does not have that advantage. The flows are negative,” he said.
Morgan Stanley said the ECB must take immediate and pre-emptive action to head off he risk of full-blown deflation by next year. Japan’s travails over the past 20 years show that is very hard to shake off the virus once it becomes lodged in the system.
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