The eurozone’s inflation situation may have just as much to do with food and fuel as it does with rising taxes, according to analysis from Societe Generale’s Klaus Baader.
Baader admits that energy prices are the main drive of price rises in the region, having added 1.2% to the total year-over-year inflation increase of 2.4%. Food, on the other hand, hardly mattered, with prices rising a much more modest 0.3%.
So where is the rest of this inflation surge coming from?
From Klaus Baader:
Aside from cutting expenditure, numerous governments have resorted to raising indirect taxes and duties, especially VAT rates and taxes on tobacco and alcohol as well as energy. Over the past year, VAT hikes have been implemented for example in Spain, Greece (several times), Portugal and Finland.
And just how big is this addition (emphasis ours)?
How large that effect may be is difficult to know, but even assuming that only half to three-quarters of the tax hikes have been passed on, it would still imply that the headline rate is biased upward by 0.2-0.3pp. We would lean towards the upper end of this range, in light of the fact that tobacco tax hikes have played an important role as well, and those do tend to get passed on in their entirety. In other words, underlying overall inflation in January was running at 2.0- 2.1% yoy, rather than 2.3%.
This is disturbing for multiple reasons. One, an ECB rate hike, which is expected next month, won’t necessarily bring down food or spiking fuel prices. Two, 0.3% of inflation is actually being caused by tax increases, so it’s unlikely a rate hike can contain that either. If there were no new taxes, core inflation would be around 0.6% rather than 1.1%, according to Baader. He also says the impact of this tax hike will disappear next year.
That means 0.6% of “core” inflation is the target of an ECB rate hike. That doesn’t seem like much, considering the risks.