Prices in Germany rise by 5.1 percent

Sebastian Dullien, head of the Institute for Macroeconomics and Business Cycle Research (IMK), which is close to the union, sees it similarly. The war in Ukraine dashed hopes that inflation would quickly return to two percent in Germany and the euro area. He also fears values ​​of well over five percent for the year as a whole in Germany.

An additional price hike would further complicate the monetary policy of the European Central Bank (ECB). It is aiming for an inflation rate of two percent in the medium term for the euro area. In view of the rapid inflation in recent months, she had recently given signals for a faster tightening of monetary policy.

Until recently, many experts therefore assumed that the ECB would decide to end its net bond purchases more quickly at its meeting next week. However, this is now uncertain. Higher energy prices and additional political uncertainty would also likely weigh on growth. ECB Director Fabio Panetta is already urging caution given the unforeseeable consequences of the Ukraine war. From his point of view, the central bank should apparently wait with a course correction.

Commerzbank chief economist Jörg Krämer sees it differently. He points out that inflation was already very high before the Ukraine war broke out and threatened to solidify due to increased inflation expectations. In view of this risk and also the sharp increase in real estate prices, the very expansive monetary policy is no longer appropriate. “In this respect, the ECB should decide at its meeting next week to let the net bond purchases expire by autumn.” According to Krämer, the central bank should accompany this decision with a note that it will resume net purchases or take other measures if the The euro area would be hit hard economically, for example, by a stop in Russian gas supplies.

When analyzing inflation, economists are currently seeing various warning signs. An overview of the most important indicators:

Energy and commodity prices

As before, no relief for the inflation rate can be expected from the energy markets. The war in Ukraine has pushed oil prices to their highest level in over seven years. European Brent oil was trading at around $101 a barrel on Tuesday. Russia is the world’s third largest oil producer after the United States and Saudi Arabia. Analysts fear that Russia could cut oil supplies to the West in response to sanctions, thereby further reducing the already tight supply.

Investors are also pricing in acute supply bottlenecks on the commodity futures exchanges. Currently, traders are paying a premium of more than $12 per barrel for next-delivery oil over six-month delivery oil. This market constellation, known as “backwardation”, is extremely unusual, observes Giovanni Staunovo, commodities expert at the major Swiss bank UBS. “There have never been such high premiums for shorter-dated futures contracts.” In calm market phases, oil for later delivery usually costs more than on the spot market, the premium reflecting the storage costs.

For traders and analysts, the current development, pronounced backwardation on the futures market, is an expression of a clear undersupply and a signal that oil prices will continue to rise. The ECB also uses forward curves for price forecasts on the oil market. However, the central bank is assuming that oil prices will fall significantly in the long term. In the current market environment, however, this led to the ECB underestimating the effects of rising energy prices on the inflation rate – and consequently having to adjust its forecasts upwards several times.

In addition, a number of other important raw material prices have recently increased due to the Ukraine war. For example, Russia has a market share of over 40 percent in palladium, an important precious metal for the automotive industry. The country also accounts for 17 percent of global natural gas production, 11 percent of wheat production and around 6 percent each of global aluminum and nickel production. The prices of all these commodities have risen to multi-year highs since the outbreak of the Ukraine war. The broad pressure on producer prices should therefore continue.

producer prices

Producer prices are closely related to this. What is meant are the prices for raw materials and intermediate goods from the factory gate, i.e. before they are further processed or sold. For example energy, pig iron, steel or wood. Producer prices in Germany rose by 25 percent in January, more than at any time since the survey began in 1949.

They are considered to be precursors for the development of inflation. Here, too, the increased energy prices are having a particularly strong impact. At the beginning of the year, they rose in price by an average of 66.7 percent. But even if you exclude energy, producer prices were a total of 12.0 percent above the previous year’s value.

Companies are therefore registering higher costs for primary products. This increases the likelihood that they will pass them on to the end customers. In the past, companies have often dispensed with this and instead accepted lower profit margins. However, in the current environment where inflation is higher, there may be more opportunity to push through price increases.

freight prices

One area where the current delivery bottlenecks are particularly noticeable is in container shipping. Freight rates, i.e. the price of transporting cargo, have skyrocketed since the pandemic began. This can be seen from the SCFI index, which shows the freight rates on particularly important shipping routes. But it’s not just the cost of transport that has skyrocketed, it also takes a lot longer for a container to reach its destination. The time it takes for cargo to travel from the point of origin to the port of destination has also increased significantly, as can be seen from the Ocean Timeliness Indicator. The increased delivery time means that important parts do not arrive at factories, which means that they cannot produce at full capacity. From the point of view of experts, this will probably not change much this year.

“We have not yet reached the turning point,” says Burkhard Lemper, head of the Institute for Shipping Economics and professor at the Bremen University of Applied Sciences. He assumes that the bottlenecks will continue for the time being, provided that the war does not cause a significant collapse in world trade. “Demand is growing faster than supply.” He only sees a better situation from 2023, when more and more new container ships will be delivered. The delivery times are similar.
“There is the problem that some ships are currently at sea for a week or longer because the ports are overloaded.” There are also shortages of containers. These are not returned quickly enough due to delays in the production processes.

Both problems are closely related. “If there were fewer traffic jams in front of the ports, that would relieve the strain and more shipping space would be available immediately.” At the moment, however, there is more of a risk that there will be more due to the Chinese government’s zero-tolerance policy in dealing with Corona port closures are coming.

inflation expectations

Another important metric that central banks pay close attention to is inflation expectations. If workers expect higher prices, this can lead to them demanding higher wages, creating a momentum of its own that in turn leads to even higher inflation. There are different ways to measure inflation expectations. For example, these can be derived from market prices. In the euro area, these are currently around two percent for the long-term future.

The problem here, however, is that the information could be distorted, among other things, by the massive bond purchases by the central banks. Another possibility are survey-based methods. For example, the Bundesbank asks households what inflation rate they expect in the coming year.

In January, this reached 4.5 percent and was thus just below the level in December. The proportion of people expecting a slight or significant increase in inflation in the short term did not increase further.

The ECB is also asking experts about it. At the beginning of the year, you assumed an inflation rate of 3.0 percent for 2022 in the euro area. In autumn they had estimated a value of 1.9 percent. Before the start of the war in Ukraine, the ECB’s Director of Markets, Isabel Schnabel, had said that exaggerated inflation expectations could force the central bank to turn interest rates earlier.

More: “A five before the decimal point is more likely” – how the Ukraine war increases the risk of inflation