Differing inflation trends complicate matters for central banks - 20 february 2023
The current resilience of the economy is accompanied by inflation that remains high but shows very inconsistent trends across sectors and countries. This has led to large differences of opinion regarding how to interpret the data, including within central banks.
The picture painted by recent economic indicators marries up with the observations of Fed Chair Jerome Powell two weeks ago: that the economy is resilient and disinflation has begun but is still at largely insufficient levels. It is this latter point that has sparked the most debate among observers. From the six-month smoothed data (cf. chart 1), we can see that disinflation has been rapid in the goods sector, even if the level of inflation remains higher than before Covid. For services (excluding rent), a measure to which Jerome Powell often refers, disinflation is still very modest. Finally, as regards rent (43% of the core CPI), we already know that the CPI figures will gradually decline this year and in 2024.
Core inflation also remains fairly high in Europe, but breaking it down reveals large differences compared with core inflation in the United States. There are also likely to be appreciable differences between European countries. Since INSEE publishes seasonally adjusted data, we can calculate recent six-month trends for certain components in France (cf. chart 2). The data shows that, in contrast to the United States, inflation is resilient in the goods sector, while services inflation has halved since the summer. It therefore seems that, in addition to the sharp rise in food prices, Europe's main problem for the moment is the 2022 energy shock affecting the prices of manufactured goods.
So, the debate over the interpretation of inflation figures remains very broad. For optimists, the distinct easing of energy price pressures in Europe could, for example, lead to lower inflation in manufactured goods in 2023. However, pessimists may fear that inflation will extend to the services sector, as suggested by some companies' qualitative studies. Given these uncertainties, we should not be surprised by strong divergence within central banks. All told, we believe that new market expectations—further hikes of +50 to +75 basis points by the Fed and of around +125 by the ECB this year—are in line with the current compromise between central bank doves and hawks. In the short term, the rise in bond yields is therefore expected to remain limited.
We are maintaining a fairly high exposure to the equity market in our global flexible funds, but with option-based hedging. We are focusing on the energy transition (basket of 40 equally weighted stocks), European risk reduction (small stocks) and emerging markets. Our bond duration remains at zero. We are continuing to earn increasing money returns by actively managing the cash portion of our portfolios.