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ECB Slashes Interest Rates Amidst Inflation Surge and War Turmoil - Insight from Rabobank

Published 30/05/2024, 09:48
© Reuters
- - Statements by EZB chief economist Philip Lane about a possible rate cut in June and July are naive at best, according to Rabobank analyst Michael Every's damning judgement.

Lane claimed on Monday: "Most of the EU inflation is due to an energy supply shock that is now subsiding."

Every disagrees: "What he fails to mention is that inflation is still rampant among European service providers. The fact that he talks about a rocky road ahead suggests that the ECB has no idea how to steer the economic ship. Let's remember George W. Bush's "Mission Accomplished" statement - a clear case of miscalculation that can only lead to disaster."

Every makes it clear that central banks, including the ECB, need to rethink their understanding of inflation. Because the new inflationary tendencies are coming from completely different directions.

"Put simply, it's now about 'aeroplanes, grain and cars - and cryptocurrencies'," says Every.

Europe's defence plans on the brink of collapse

Every quotes the Economist: "The plan to rearm Ukraine has exposed an explosive weakness."

And writes: "There is not only a shortage of skilled labour, but also of explosives. This is a structural shock to supply and demand, forcing Europe to spend more for the same amount of defence equipment. What will happen if the EU has to spend 3.5% of its GDP on defence instead of 1.5%? "Mission Accomplished" in terms of inflation? Hardly. And Europe is not alone with this problem. The USA, the UK and Australia also have problems with the defence industry supply chain."

Grain prices soaring: What if Russia takes over Ukraine?

Grain prices are skyrocketing, with the CBOT spot market for Weizen now at USD 7 per bushel. Poor weather conditions and Russian control of the market are driving prices up. "What would happen if Russia were to take over Ukrainian grain production by conquest?" asks Every. The consequences for the global markets would be devastating, especially for the weaker economies that are close to the EU.

EU faces automotive crisis: Chinese electric cars could destroy German industry

Meanwhile, Europe is considering how high the tariffs on Chinese electric cars should be. The US has already reacted and raised tariffs from 25% to 100%. Every writes:

"According to the Financial Times, Chinese brands will respond to high US tariffs by targeting EU consumers with luxury models: the highest end of the value chain with the juiciest profits."

This would inevitably mean that European mid-range and luxury cars would become shelf warmers. Germany is sceptical about possible punitive tariffs, as China is its most important trading partner.

Every points out:

"But if Europe loses its automotive industry as an economic engine, then it won't be able to produce shells or other military goods either. And then what?"

The Philippines is already showing the full extent of the disaster facing the world, as Every explains:

"The Philippines is calling on the US and the West to strengthen bilateral trade and investment ties to compensate for the decline in Chinese capital inflows. The government can only invest in defence if the economy is thriving."

Without a strong economy, there will be no adequate defence spending, anywhere.

Trump protects crypto rights: is an inflationary nightmare looming?

Trump has promised to protect Americans' right to cryptocurrencies and to dispense with a central bank digital currency. A development that is also inflationary. After all, if assets with a market capitalisation of trillions of dollars are created out of the digital vacuum and released into the real economy, this is no different to the central bank printing new money.

"A second Trump term is inflationary not only in terms of higher tariffs and bigger tax cuts, but also in terms of the ability of Americans to create their own cryptocurrency at home. I'm not sure central bank inflation models take into account the highly price-driving effects of the cryptocurrency craze we saw a few years ago. But they should now. It will take a high interest rate to discourage some from betting on crypto in the hope of staying afloat in the current self-deflating US economic system."

Every concludes by commenting that China is far ahead of the West in terms of counter-alternatives. The Politburo is talking about new financial regulations. These may not please the market, but they serve the long-term goal of expanding geopolitical influence. And while Wall Street analysts are still pondering how to interpret this development, one thing remains clear: the world is facing a new era of economic and geopolitical uncertainty, and central banks don't seem to have a plan for how to deal with it.

So anyone who believes that the spectre of inflation has been vanquished is certainly backing the wrong horse in their investment decisions. If Every is right, we will not only see new highs in inflation, but also further highs in interest rates.

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