German Inflation Shows Rebound in December, Influencing ECB Considerations

In December, German inflation experienced a rebound, presenting implications for the European Central Bank’s (ECB) approach to rate discussions. The temporary halt in disinflation, as revealed by the recent flash estimate, showcased a year-on-year headline inflation of 3.7%, up from 3.2% in November. Similarly, the European inflation measure rose to 3.8% year-on-year from 2.3% in November. It is crucial to note the differences in weightage for individual consumer goods and the inclusion of prices for gambling and owner-occupied housing between the national and European inflation measures.

Base effects played a significant role in the December inflation rebound, ending a five-month period of decreasing inflation rates. Throughout most of 2023, disinflationary trends prevailed, primarily due to favorable base effects, supply chain normalization, and lower energy prices. Notably, the decline in headline inflation in Germany and the Eurozone was attributed to price cuts in leisure, entertainment, and hospitality services, along with food price discounts in the latter half of 2023.

The resurgence in December’s headline inflation was primarily influenced by the reversal of base effects in energy prices and the implementation of energy price caps introduced in December of the previous year. While heating oil and alcohol prices decreased compared to November, food prices exhibited a consecutive monthly increase.

Looking ahead, two contrasting trends will shape inflation in 2024: further disinflation and potentially deflation due to weakened demand, and new inflationary pressures resulting from government interventions. The European Central Bank’s tightening monetary policy is expected to contribute to a continued disinflationary phase, driven by higher interest rates and a subsequent decline in demand. Conversely, government measures, such as the return of the 7% VAT to 19% for restaurant services, increased CO2 emission pricing, a plastic tax, a flight tax, and the end of energy price caps, are anticipated to introduce new inflationary drivers in 2024.

The forecast for German inflation in 2024 suggests it will hover around 3% year-on-year, with risks leaning towards the upside. This reacceleration of inflation reinforces the ECB’s cautious approach, emphasizing the need for a stable stance and postponing any hasty decisions regarding rate cuts. The expectation of a first ECB rate cut remains in June, aligning with the evolving inflationary landscape.

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