Europe's Inflation Shock Has Yet to Arrive, Markets May Be Mistaken

Markets may be overestimating the likelihood of additional rate hikes from the European Central Bank and the Bank of England, according to ING economist James Smith. He argues that Europe's resilience in the face of the Iran War is due to contained inflation rather than excessively loose monetary policy.

Smith points out that energy prices have contributed less than a quarter as much to eurozone inflation as they did during the 2022 crisis, and indirect energy-sensitive inflation has barely moved. He notes that food inflation, wage sensitive inflation, and corporate selling price expectations remain benign.

The hawkish case for further rate hikes depends increasingly on a delayed pass-through that has yet to appear in the data. Smith expects next week's data to show some further increase in inflation, but argues that a lag is not the same as a guarantee of future rate hikes.