MNI BRIEF: Dislocations Disrupt Underlying Price Info Flow–ECB

Major economic dislocations across the euro area including the pandemic, supply bottlenecks and energy shocks have made underlying inflation less informative over the medium term, as the data contain a “sizeable and possibly more slowly reverting transitory element” as the distortions ease, European Central Bank says in its Economic Bulletin published on Friday.

A model to assess the impact of these exceptional shocks on inflation narrows the range of underlying inflation measures, “reflecting the sizable contribution of these shocks in the current measures”, the paper says, noting that domestic inflation forces are becoming more prominent while external pressures are softening.

The ECB economists behind the paper argue that the distinction between services and goods prices can help to gauge “the persistent component in inflation” today as goods were more affected by bottlenecks and with demand fading, its inflation is less likely to be persistent, “whereas the dynamics of services inflation may determine the overall persistence of headline inflation”.

Several underlying inflation measures confirm that the recent easing of core inflation is mainly driven by non-energy industrial goods rather than services. However, PCCI -- “better capturing the momentum of a series” -- appears to have started to decline for services too. Monitoring underlying inflation can help in assessing if the last ECB macroeconomic projections are on track in an environment of elevated uncertainty, the paper says.