High Eurozone Inflation to Decline, But Fiscal Challenges Remain

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Eurozone inflation in April was negative 0.2 percent, compared with a revised zero percent in March (AFP Photo/Philippe Huguen
Eurozone inflation in April was negative 0.2 percent, compared with a revised zero percent in March (AFP Photo/Philippe Huguen

Thanasis Petras – As the eurozone is struggling with 10-year record-high inflation, macroeconomics and political economy experts told Sputnik that this increase is temporary in nature, although fiscal threats to the monetary union would remain, as the post-COVID economic recovery is long and challenging.

The post-pandemic annual eurozone inflation rate has been rising and reached 3% this August, which is a 10-year record, according to Eurostat. The current inflation growth rate exceeds the European Central Bank (ECB) target of 2% and may bring significant increases in consumer prices across the eurozone.

“Households and companies will feel the pinch of inflation in their pockets, the euro in their pockets will go a bit shorter than it went a year ago,” Dr. Vasco Gabriel, a professor and the chair of economics at Canada’s University of Victoria, told Sputnik.

In 2020, when production was halted with the onset of the pandemic, eurozone inflation was 0.25%, according to the ECB data, creating concerns of possible deflation. As a result, price stability was disrupted in the eurozone and globally.

“Obviously, it’s mainly driven by the lockdown. We have to put this increase in the eurozone in the context of the worldwide economy. We are seeing similar spikes in the UK, in North America as well, for example, Canada, is in excess of 4% and in the US is in excess of 5%, this really suggests that this is a global problem mainly driven by the pandemic. More specifically, we could attribute this increase in prices particularly to the lockdowns and to bottlenecks in supply,” Gabriel said.

Germany, being the eurozone’s biggest economy, has announced a record-high annual inflation rate for August of 3.9%, its largest number since December 1993, according to the German Federal Statistical Office.

“Germany is the biggest economy, so it will also weigh more in measuring the total amount of money and the total inflation for the entire euro area, so the fact that German inflation is up there creates a bigger chance that the European Central Bank will start to look [to] the medium run,” Dr. Amy Verdun, the professor of political science in the University of Victoria, told Sputnik.

At the same time, a number of stimulus packages by eurozone member states managed to keep a steady flow of cash into the economies during lockdown, but the results of those policies may have had an adverse effect.

“People lost their jobs and advanced economies have had governments provide support for these people, so effectively spend a lot of money and potentially that could have an inflationary effect. If you spend a lot of money and it’s not coming from anywhere but just from government support, that’s one major input of money into the economy,” Verdun said.

The expert stressed that when there were “many people sitting on a fair bit of money” due to lockdowns, there was no opportunity to spend it, and this brought an excess of money in the economy, with goods and services being in “scarcity” and further raising the price of consumer goods.

“A number of these factors are independent of the pandemic but some of them are connected with disrupting the global production chain, and on top of that we have shortages of chips that’s are necessary for cards, and suddenly the price of second-hand cars has gone up and various machinery that requires these chips are also in short supply,” Verdun added.

A TRANSITORY SPIKE

Although this inflation increase is a reason for concern, there is nothing structural pushing inflation up in the eurozone, with a possible decline to come in a few quarters. However, the fiscal side in the eurozone is “a bit loose” and, as a result, in the near future many governments will change their “generous” approach toward unemployment, according to Gabriel.

“If we look at the data at the end of 2020, inflation was in almost negative territory in the euro area. There was a sharp drop around the lockdown period and now we are seeing a correction. The issue is whether this bounce is indicating a trend or whether it is just transitory. In my opinion, and I think I am accompanied by other economists, it’s a transitory spike rather than something a bit more permanent,’ the economics professor added.

POSSIBLE NEW CRISIS

Last year, the ECB was purchasing government bonds — a process known as quantitative easing — to support the ailing euro economies, especially the most vulnerable. Although the increase in inflation might be transitory, the ECB’s post-pandemic monetary policies might have a significant effect.

“There is a danger that the ECB will pull the trigger too soon in terms of hiking interest rates and then that will have a knock-on effect on people’s lives, on mortgages, credit and so on. I don’t think that the ECB will pull the trigger, because the quantitative easing part of the ECB’s response to the pandemic has a deadline — it is going to be March 2022,” Gabriel said.

There will be uncertainty after the ECB stops quantitative easing, as during the pandemic, weaker eurozone members paused household debt payments in order to protect mortgage payers, and for some countries this accumulated debt is already too large.

As a result, when quantitative easing stops and “you turn off the tap”, there is a danger of recession similar to the 2008 financial crisis, the chair of Economics Department at the University of Victoria added.

In such a scenario even economically powerful countries of the eurozone will be affected, with Dr Gabriel stating that “I don’t think it is going to be just a problem of the usual suspects — I think this is going to be a systemic problem, there is a substantial systemic risk to the euro area because of the burden that was put on households and on banks because of the pandemic.”

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