Inflation anxiety on the rise again
Global manufacturing continues to outperform services, supported by AI-related demand. Meanwhile, the BoE and ECB remain cautious as policymakers assess inflation trends and labor market conditions.
Weekly highlights
Still near multi-year high
Better, not yet good
As expected
Slightly below expectations
June is likely the low point for inflation.
Labor market weakening continues.
Easy base effects
New local low
Solid
Global: Manufacturing strong, services relatively soft
We have repeatedly highlighted in these pages how the US economy is becoming increasingly K-shaped, not just within the consumer space (low-income vs well-to-do), but also across investment segments (housing vs AI-related). A similar performance divergence exists at the global level across manufacturing and services industries.
Global manufacturing is booming, reflecting the ongoing AI enthusiasm. The global purchasing managers’ index (PMI) for manufacturing eased modestly in June, but remains near multi-year highs at 52.2. The current upturn in global manufacturing activity is the strongest since the post-reopening boom and, prior to that, 2017-18.
By contrast, though not entirely surprising given the Iran war, global services activity remains soft relative to history. To be fair, the rates of expansion are not that different between the two sectors, but given the stronger default baseline for services, this registers as weakness. It is likely to persist for a while given geopolitical uncertainties.
BoE: Set to hold again
The recent rise in energy prices will almost certainly draw the MPC’s attention, but the bigger question is whether this shock is feeding through into broader price pressures. For now, there is little evidence that it is, which should give the Committee enough comfort to keep Bank Rate unchanged at 3.75% next week.
The latest inflation data reinforce that message. Headline CPI eased to 2.6% YoY in June from 2.8% in May, mainly driven by a sharp decline in petrol prices. Food inflation also remained contained, while the services inflation measure moved lower again, which is an important signal for policymakers focused on domestic price persistence.
Even so, June is likely to mark the low point for inflation. July’s Ofgem price-cap rise should lift headline inflation again, while the VAT holiday on electricity bills is likely to be outweighed by higher wholesale energy costs after renewed Middle East tensions.
Against that backdrop, the labor market offers the MPC a more reassuring signal. Conditions remain soft enough to limit the risk of second-round inflation effects. The unemployment rate stayed at 4.9% in May, while vacancies were broadly unchanged at 712k in the three months to May. Wage growth also softened, with average earnings growth on a three-month annualized basis easing to 4.3% in May, from 4.4% in April. Regular private sector pay growth edged down from 3.0% to 2.9%, offset by stronger regular public sector pay growth, which rose from 5.1% to 5.5%.
Eurozone: ECB on hold (for now)
It came as no surprise that the ECB Governing Council left policy interest rates unchanged at this week’s meeting. The crosscurrents influencing the outlook are numerous and contradictory. But in essence, President Lagarde described the situation as “back to the baseline.” This required no immediate action, but requires intense observation focused on the intensity, durability, and transmission channels from the renewed flare-up of the Iran conflict.
The good news, allowing the Governing Council to unanimously support leaving interest rates unchanged at this meeting, is that “we are not seeing second-round effects.” For now, that is. Meanwhile, there is evidence of softening wage inflation, which we ourselves have highlighted as a key reason why the ECB need not be aggressive in tightening policy.
Perhaps the most important message from the press conference is that “the burden of proof is on data, as simple as that.” There will, indeed, be a lot of data still to come before the September 10 meeting. The market is pricing a near 90% chance of another rate hike then. Whether in September or later, we do also expect another rate hike to come, even though we disagree on the need for it.
Catch the whole story...
There's more to the Weekly Economic Perspectives in PDF. Take a look at our Week in Review table – a short and sweet summary of the major data releases and the key developments to look out for next week.