High inflation in Europe will continue into 2023

Following the US Federal Reserve the European Central Bank decided to slow the pace of interest rate hikes. And as in the US, this policy will continue in Europe too into 2023. But the ECB also announced a quantitative tightening starting in March next year. For investors the news is mixed since estimates are that the current factors that are pushing inflation up will continue to act in 2023 but there are estimates that we will see a relief in the second part of the year.

Macro commentary by eToro analyst for Romania, Bogdan Maioreanu

Eurozone inflation fell to 10.1% in November from 11.1% last in October. Other good news came from Flash December UK and Eurozone purchasing manager indices (PMI) published last Friday that were better than expected, showing the resilience of the economic growth outlook. They are still at low recessionary levels, with new orders and jobs outlook weak, but not falling further and with easing price pressures pointing to peaked inflation. The Eurozone PMI increased (48.8) for the second month, led by Germany. This was helped by recovering travel and tourism sectors and even as energy-intensive manufacturing lagged behind. Input and output prices rose at the smallest pace in over a year, giving further hope that inflation has peaked.

In its latest move to fight inflation, the ECB raised interest rates by 0.5% after a couple of 0.75% increases. But ECB President, Christine Lagarde warned that this is not the pivot the markets are expecting and we will see 0.5% increases for a period of time. There are members of the ECB that are seeing the same 0.5% increase to happen again in February and March next year.

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The latest data from Romania shows an acceleration of annual inflation to 16.76% while the interest rate is at 6.75%. In Poland the inflation was decelerating with 0.4% from the previous month, reaching 17.5%. The key interest rate in Poland is the same as in Romania. But in Bulgaria, the inflation rate is decelarating with 0.7% despite the fact that the key interest rate was hiked for the first time in November with only 0.49%. Hungary and Czechia are, however,  witnessing acceleration of inflation with over 1% despite having high key interest rates. In Hungary the central bank’s key rate is 13% and in Czech it is 7%. Most likely, the National Bank of Romania will continue with the interest rate hikes in 2023 but at a slower pace than we have seen this year.

In 2023 the same factors that dominated this year will induce uncertainty into the markets. While so far Europe is prepared for this winter, the scramble to replenish the gas reserves will start again in the spring. The ECB is taking into consideration that a risk of shortages remain for the Winter 2023-24 in case the Ukraine war will continue. The energy crisis will continue to affect Europe and fiscal policies will most likely hinder growth.

The ECB sees the GDP in the Euro Area ending this year with an increase of 3.4%, and to expand next year by only 0.5%. The energy shock induced by the Ukraine conflict is propagating through the economies with cutbacks on energy-intensive industries, inflation and uncertainty. Forecasts for inflation, meanwhile, were raised for the next two years. It’s still seen above-target in 2025. According to the latest eToro Retail Investor Beat survey inflation is the main cause of concern for investors.

But the good news for investors is the ECB estimating that in the second half of 2023  the activity will start to recover as the energy markets rebalances and uncertainty recedes. The European central bankers estimate that supply bottlenecks will ease while foreign demand is increasing, with Europe well positioned from the point of view of price competitiveness. Despite all this, the GDP will remain below the trajectory forecasted prior to the Ukraine invasion.

2023 looks to be a complicated year. The household’s disposable income is forecast to contract in 2023 due to high inflation and to only gradually recover in 2024-25. Because of this the savings ratio is expected to decline below the pre-pandemic level next year and in 2024 and to only start a recovery in 2025.