Energy Cable: 4 charts that should keep Largarde up at night
Hello from Copenhagen where Danes are waking up to the first day with a new king as monarch of the Kingdom. As readers will know we have covered the Suez/Red Sea troubles extensively over the last couple of weeks. As one would expect the 10 extra days of travel time south of The Cape Good Horn will entail additional freight costs which will end up being paid for by customers.
If the Covid pass-through inflation pattern is the least indicative of what is in store for consumers goods inflation is certainly back on the menu: If the correlation plays out again goods inflation reaching 5% YoY due to the increase in freight rates. We use a 10 month lag here given a best fit of correlation, but note that the lag time in the US is 5 months and European consumers could see second derivative effects from US inflation. Question is of course if Europeans will be able to meet price pressures from companies to the same extent as they did in 2021. The answer is properly not. The Americans are likely much better suited to it which in turn will affect the rates decision of the Fed.
Chart 1.a: Freight rates pointing to higher goods inflation in the fall
Price expectations in Germany, here using the Ifo index, point in the same direction as freight rates albeit to a lesser degree. For consumers this certainly looks like price increases on the horizon, the question is if European demand can handle another round if out. Final consumption expenditure of households doesn’t seem to suggest so.
Chart 2: Price expectations in the Ifo index pointing upwards as well
Underneath the energy hood things have also been brewing in Europe. Over the last weeks we have seen cold weather hit North West Europe and the Scandis and our three factor model has reacted accordingly. Current stock levels are at 80% and with 3 months left of the heating season Europe is fine. The problem lies, just as with goods inflation, in the horizon. During last summer and early fall the natural gas filling in Europe went smoothly due to the high baseline after a mild winter (See the light blue line in chart 3).
If markets suddenly start to fear that Europeans’ gas consumption this heating season will have ripple effects into the next heating season then watch out for energy inflation to return. Especially given how fragile the European gas market is post 23.02.2022.
Chart 3: Our three factor model is now well below its mean value. Now watch stock levels
Eurozone inflation looks uber dovish in the coming months and the ECB looks ready to commence its cutting cycle in the spring. And rightly so given our own forecasts. Looking on the other side of the Summer, however, the picture changes with a set up for another round of inflationary pressures.