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Eurozone falls into deflation

Tim Congdon, Economic research, macroeconomic forecasting


Inflation has been falling in many countries during 2014, with the steep fall in the cost of oil in the final two months of the year playing a significant role in this process.

This has proved beneficial to countries such as India, where inflation stood at nearly 9% at the start of the year. However, for countries where inflation was already barely above zero, the result has been deflation. The Eurozone, still struggling to build a credible recovery, has been particularly hard hit and for the first time since 2009, the single currency area as a whole recorded an annual consumer price fall in December.

The chart below illustrates the different rates of inflation across the member states of the single currency bloc. Of the 19 countries, including new member Lithuania, less than half had positive inflation with only one country (Austria) registering an annual inflation rate above 1%. Of the remaining 10 nations, three recorded zero inflation with the remaining seven in deflation. The three countries with zero inflation (Italy, Slovakia and Portugal) had previously experienced deflation at some point during 2014 – indeed, Portugal and Slovakia have not recorded any positive inflation since the start of 2014. Cyprus and Greece have now experienced 18 months of deflation and are likely to suffer many more months of the same.

Of particular significance is Germany, where the annual inflation rate fell from 0.6% in November to 0.2% in December. The Eurozone would not be staring a deflation trap in the face were it not for German intransigence over QE. Now deflation seems to be knocking at the doors even of the most powerful member of the single currency area, this previously stubborn resistance may disappear. However, with a general election due in Greece just after the next ECB board meeting, no decision is likely this month. The anti-austerity SYRIZA party has been consistently ahead in the opinion polls and with the consequential fears of a possible “Grexit” if it wins, there are serious political implications whether Greek government bonds are included in any asset purchase programme or not.

So with crude oil prices falling further since the start of the year, Europe’s deflation is likely to intensify before the price level starts rising again.

(NB: December’s figures for France, Ireland, Greece, Portugal, Finland, Austria, Malta, Estonia, Latvia and Slovakia were not available when this chart was created, so data from November have been used.)


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