German inflation cools off but likely to resurge soon - ING

Carsten Brzeski, the Global Head of Macro for ING Research, believes that the latest drop in German headline inflation masks another surge that we think is around the corner, adding to an increasingly heated debate at the ECB about potential next steps towards tapering.

"The drop in German headline inflation is nothing more than a thunderstorm in the summer: it brings a short period of cooling off but not really a game-changer."

"Based on inflation outcomes of several regional states, German inflation in June came in at 2.3% year-on-year, from 2.5% in May. The harmonised index relevant for the ECB decreased to 2.1%, from 2.4% in May."

"The fall in headline inflation is just a short stop before another surge. In July, the full base effects from the VAT reversal will show for the first time, probably pushing inflation to above 3%. A continuing surge in headline inflation together with what currently could be the most fertile breeding ground for second-round effects will further fuel the tapering debate."

At the last policy meeting and even since then, the ECB has stuck to its very benign view on inflation."

"An inflation outlook of 1.4% in 2023 is anything but scary, however, this benign take could soon be subject to some rethinking. In fact, in our view, the breeding ground for at least one edition of second-round-effects has hardly ever been more fertile than currently on the back of reopenings of the economy. A pass-through from producer to consumer prices as well as a pass-through from consumer prices to wages."

"Judging from recent comments, the doves and hawks at the ECB are starting to position themselves for what will become a heated tapering debate over the summer months. Contrary to the situation in the US, the ECB’s tapering will not be a process to completely stop asset purchases but rather a strategy to bring the Pandemic Emergency Purchase Programme (PEPP) to a subtle end by March 2021 and have the traditional Asset Purchase Programme (APP) take over entirely."

"As much as eurozone citizens are currently hoping for a carefree summer, ECB policymakers will inevitably lose some time (and relaxation) over the right way forward."