According to Bloomberg News, Europe is less worried about inflation than the United States, which might play a crucial role in how the economy across the globe recovers. Figures indicate a disparity in inflation on either side of the Atlantic.
The spread between German bunds and Treasury yields of 10-year is a proxy for inflation and growth outlook in Europe and the US. It increased for most of 2020 to respond to a global economic recovery, with the United States leading.
However, the trading has been sideways for most of 2021, which is again a function of range-bound yields as inflation is continuously rising and when there is pricing in the hawkish monetary policy. In Europe, particularly in Germany, inflation has not been affected similarly. This is because China is the second-largest partner in trading, the effect of COVID there, and the prevailing case count in Germany and allied restrictions.
While the effect of inflation is not pronounced in Europe compared to the United States, it does exist there. The December composite PMI for the euro area dropped to 53.4 compared to the forecast of 54.4. The German producer costs surged 18.3% year-over-year in November.
Bloomberg News reports that markets are manifesting similar trends, too, as the German break evens of 10-year that are accustomed to price in inflation anticipations revolve near levels that were last seen way back in 2013, during the intense European debt crisis. If taken together, it implies decelerating growth as inflation will pick up.
This scenario has given rise to a divergence manifested in the Federal Reserve’s monetary policy aside from the European Central Bank. According to the President of ECB, Christine Lagarde, it is unlikely that the rates will be rising under the central bank instructions in 2022. And while to halt net purchases is almost ready through the Pandemic Emergency Purchase Programme (PEPP) of the central bank March, purchases will increase through a much older asset purchase program.
In the United States, meanwhile, Chairman of the Fed Powell announced a rapid tapering that would accompany three hikes in rates in 2022 so that it can counter inflation, thereby shifting the focus from the labor market and rate of participation that is slated to take a much longer time for recovery.
