Euro area headline inflation set for a sizeable decline

Chris Scicluna
Emily Nicol

Tokyo inflation edges slightly lower on energy, but core inflation rises to the highest since 2015
The deluge of economic data out of Japan overnight brought another upside surprise to inflation, some better than expected industrial production and retail sales figures, but also a disappointing report from the labour market. In terms of inflation, the Tokyo headline CPI rate fell for the second successive month in March, albeit by a slightly softer-than-expected 0.1ppt to 3.3%Y/Y. Tokyo core inflation excluding fresh foods similarly eased 0.1ppt to 3.2%Y/Y. But the moderation was again related to the government’s support measures, with energy inflation down a further 5ppts to 0.3%Y/Y, to knock a further 0.2ppt off headline inflation. Indeed, electricity prices were down 6.0%Y/Y, marking the steepest decline for almost two years, while gas inflation eased 8ppts to 12.3%Y/Y, a sixteen-month low. But services inflation was higher, particularly due to an increase in inflation of hotel charges (in part reflecting recent changes to government incentives in the sector) and recreational activities. So, when excluding energy and fresh food, Tokyo core inflation rose 0.3ppt to 3.4%Y/Y, with the internationally comparable core rate (excluding energy and all food) up 0.3ppt to 2.0%Y/Y for the first time since 2015 (and for the first time since 1992 when excluding the impact of the consumption tax hikes). Looking ahead, our colleagues in Tokyo continue to expect the BoJ’s forecast measure of core inflation (excluding fresh foods) to maintain a gradual downwards trend over coming quarters, albeit to remain on average in FY23 just above the BoJ’s 2% target.

Japanese IP beat expectations in February, but maintains a downwards trend
Japan’s industrial production data also surprised to the upside in February, with output accelerating 4.5%M/M, driven by a rebound in the autos sector (15.4%M/M), as well as stronger production of semi-conductors, power units and electrical parts & devices. But given a steeper drop in January (-5.3%M/M), production was still trending in the first two months of Q1 some 2.9% below the Q4 average and 4% below the pre-pandemic level in February 2020. Ongoing easing of supply bottlenecks and a rebound in demand from China should help boost Japanese manufacturing over the near term – certainly, today’s METI release reported that manufacturers were expecting a further increase in production of more than 2%M/M in March. But this forecast is typically overoptimistic. Other detail in today’s release showed that manufacturers’ inventory-shipment ratio remained elevated, and surveys like the PMIs remain consistent with contraction in March amid declining orders.

Japanese retail sales jump in February, but employment falls sharply
The latest Japanese retail sales figures were also more encouraging, reporting the third consecutive monthly increase in February and by a stronger-than-expected 1.4%M/M, marking the largest rise since November 2021. This left the value of sales trending some 1.7% above the Q4 average and up 6.6%Y/Y. The improvement was again driven by motor vehicles (5.4%M/M), which were trending some 8% above the Q4 average as firms were able to take advantage of easing supply-chain strains. While the recovery in retail sales continues in part to reflect price rises over the past year, when adjusting for consumer goods inflation today’s data suggest that in real terms sales rose for the first time in nineteen months, by 1.5%Y/Y. The near-term spending outlook is likely to remain uncertain, not least due to lower household disposable incomes. And today’s labour market figures suggested that the number of people in employment fell sharply in February, by 300k, the largest monthly drop since April 2020. Admittedly, this still left the employment some 90k higher than a year ago. Nevertheless, the unemployment rate rose 0.2ppt to 2.6%. And the job-to-applicant ratio fell for the second successive month to 1.34, with the new job-to-applicant down a seven-month low.

China’s PMIs point to firm growth momentum heading into Q2
China’s official PMIs for March suggested decent growth momentum on the back of the relaxation of pandemic restrictions and policy support for infrastructure, with no evidence of price pressures to spoil the picture. Most notably, the release of pent-up demand for services, coupled with strong growth in construction that in part benefited from favourable weather, pushed the non-manufacturing PMI up almost 2pts on the month to 58.2, the highest since 2011. And the index for non-manufacturing new orders rose 1.5pts to 57.3, the best since 2007, to suggest positive momentum for Q2. In contrast, the manufacturing output PMI fell 2.1pts to 54.6. But this nevertheless still represented the second-highest reading since 2020 and a level consistent with decent growth in production. The manufacturing new orders PMI (53.6) also eased back but similarly pointed to further expansion in production in Q2. Despite the renewed growth momentum, however, the PMIs point to falling prices in March amid persisting excess capacity. The manufacturing output price PMI fell 2.6pts to 48.6 with the non-manufacturing selling price index dropping 3pts to just 47.8. Less encouragingly perhaps, the employment PMIs slipped below 50 too.

Euro area headline inflation set for a sizeable decline in March, but core inflation likely rose to a new high
All eyes in the euro area today will be on the flash release of euro area inflation figures for March. We expect the annual HICP rate to ease for the fifth consecutive month. But the magnitude of decline remains uncertain with the national releases suggesting it could range between1-1½ppts, which would leave inflation at an eleven-month low somewhere between 7.0-7.5%Y/Y. The easing in inflation will, however, certainly reflect a further substantial moderation in energy inflation thanks to base effects following the extreme spike in prices after the Russian invasion of Ukraine a year ago. Indeed, we expect core inflation to have ticked higher this month, to a new record high of 5.8%Y/Y, due to a further acceleration in core goods and services inflation.

Following yesterday's upside surprise in Germany, this morning’s French inflation figures fell a touch short of expectations, with the headline harmonised rate down a slightly smaller 0.7ppt to 6.6%Y/Y, nevertheless still the lowest rate in six months. The national measure was similarly down 1.3ppt to 5.6%Y/Y, due to a marked moderation in the energy component, which fell more than 9ppts to 4.9%Y/Y. Like in other euro area member states, food inflation maintained an upwards trend. But with a modest easing in services likely offset by a modest increase in core goods inflation, the national core CPI rate likely moved broadly sideways in March. Like in Spain, the drop in inflation in the Netherlands was more striking, down 4.5ppts to 4.5%Y/Y, the lowest since October 2021.

German retail sales maintain firm downtrend in middle of Q1
The downtrend in German retail sales continues. The volume of sales dropped 1.3%M/M in February following revised growth of just 0.1%M/M in January. That left sales in real terms down 2.3%3M/3M and firmly on track for a fourth successive quarterly contraction in Q1. Despite a further rise in prices, German retail sales fell for a third successive month in nominal terms in February, by 0.5%M/M to be down 1.5%3M/3M. While the GfK survey results this week pointed to a further modest improvement in consumer confidence in March, sentiment remains subdued and willingness to spend remains historically low. So, as households continue to lick their wounds following the recent big hit to real disposable incomes, we expect household consumption to drop over Q1 as a whole and to remain weak over the next couple of quarters.

UK house prices down for 7th successive month in March
The reversal in UK residential property prices continued this month. According to the Nationwide index, the average house price fell for the seventh successive month in March and by 0.8%M/M on a seasonally adjusted basis to be down 3.1%Y/Y. The decline this month took the cumulative decline from August’s peak to a chunky 4.6%. However, prices remain some 18½% above the level at the start of 2020 ahead of the pandemic. And surveys, as well as basic calculations of affordability for first-time buyers following the recent marked increase in interest rates, point to further declines – at least matching the drop from the peak so far – to come over coming months.

US monthly spending, income and deflators a key focus today
In the US, a key focus today will be the February data for personal income and spending, as well as the associated closely watched deflators. Underwhelming average hourly earnings suggest only a modest increase in income after a jump in January. On the spending side, an easing in sales of motor vehicles suggests a decline in spending on durable goods, and a pause in retail activity after a burst in January suggests a dip in expenditure on nondurable items. But services consumption has been well maintained and could nudge total spending into positive territory. Meanwhile, the February CPI release suggested a sharp increase in the PCE price indices – our colleagues in Daiwa America expect the core PCE deflator to have increased 0.4%M/M to leave the annual rate unchanged at 4.7%Y/Y. The updated University of Michigan consumer survey for March might well see a modest upwards revision to the headline sentiment index from the flash estimate which saw it drop to a three-month low. 

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