Vanguard: Rising energy prices elevate chance of a slower easing cycle

Vanguard: Rising energy prices elevate chance of a slower easing cycle

April 9, 2024

Commodities Inflation
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We can expect a relatively uneventful meeting on Thursday. Higher energy prices are the big change relative to the March meeting. Expect this to be reflected in the balance of risks and for the Governing Council to signal that a June rate cut is still on. Our baseline remains for 125bps of cuts this year. But clearly risks of a slower pace have increased given rising energy prices.

Since the last Governing Council meeting in March, the inflation and activity data has come in broadly in line with expectations. Core pressures continue to fade, with annual goods inflation tracking consistently below 2% since the start of the year. Services inflation remains sticky at 4% but should decelerate later in the year as wage growth moderates. Meanwhile, spot measures of growth have remained weak but more forward-looking indicators have continued to improve, partly reflecting rising real incomes.

The main news in recent weeks is the continued rise in energy prices. Brent crude oil is now up over 20% in euro terms since the start of the year (+15 EUR per barrel), though this has been slightly offset by a 11% fall (-3 EUR/MWh) in wholesale natural gas prices.If the recent increase in oil prices is sustained, energy price inflation will be significantly positive in late Q2 and early Q3, rather than flat, which was the prevailing assumption in January. In our view, the Governing Council will want to see whether this shock persists before fully baking it into the forecast. At this stage, an acknowledgement of this factor in the ‘balance of risks’ is most likely.

A June rate cut remains the base case. And we think the Governing Council will signal as much on Thursday. By then, they will have a lot more data on wages to make an informed judgement. Our baseline remains that the ECB will cut at every meeting thereafter, delivering 125 basis points worth of cuts by the end of the year. That said, risks are skewed to a slower pace of easing given rising oil prices and ISG’s view that the Fed are likely to stay on hold.

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