According to The Old Farmer’s Almanac, U.S. regional traditions have birthed many unconventional headache home remedies. Take Pennsylvania Dutch Powwowing. To cure a headache, a person sits facing East with a Bible on their lap and right hand resting on it. They then recite a trinitarian charm three times: “This water and this fire, this water and this fire, this water and this fire… Our pretty lady, Maria.” With that final line, the person wrings their hands as if physically throwing the pain away. In Southern Appalachia’s Tight Head-Binding, sufferers take a leather strap or bandana and bind it around their head as tightly as possible. The intense pressure restricts localized blood flow and distracts the nervous system, a concept known as gate control pain theory. Folklore also points us to the Penny Press countless American grandmothers have passed down through generations. When a headache strikes, press a penny firmly against the center of your forehead, close your eyes and visualize moving the pain to the exact spot where the penny touches the skin. While modern science prescribes hydration, BC Powder and a Coke work wonders – just ask a North Carolinian.
For global investors, inflation headache relief arrived with June consumer price index (CPI) releases. Canada was the latest to alleviate the pain — headline inflation eased to a 2.8% year-over-year (YoY) rate, a tenth lower than market expectations and four tenths under May’s 3.2% YoY figure (fuchsia line). Reporting earlier this month, G7 counterpart Germany eased from April’s 2.9% YoY high to 2.4% YoY (teal line), France fell from May’s 2.8% YoY peak to 2.0% YoY (aqua line) and Italy edged down from May’s 3.2% YoY top to 3.0% YoY (lavender line). Returning to pre-Iran War levels, though, requires Canada, Germany, France and Italy CPIs to drop 1.0, 0.4, 0.9 and 1.5 percentage points (ppt), respectively.
With peace fading and the military conflict resuming between the U.S. and Iran, Brent crude oil prices rose from the $71.57 July 1st low to a reading just under the $90 mark through July 20th. While this will boost July headline CPI across major economies, it also intensifies purchasing power stresses and downside to core inflation. This sets up a headline-core inflation divide for July CPIs, and a narrowing lift to headline rates as core price pass-through gets stuck in the distribution chain.
Defying the belligerent hawks who insist it can’t be so, year-to-date, oil price volatility has not trickled down to core inflation. Using an apples-to-apples comparison of CPIs ex-food and energy, the 2.6% YoY U.S. core was just 0.1 ppt higher than February’s 2.5% YoY pre-war rate (green line).
At 2.5%, Germany’s ex-food and energy calculation was unchanged relative to four months ago (dark red line). And Canada’s core 1.8% YoY figure was two tenths south of February’s (blue line).
If the Bank of Canada (BoC) is seeking corroboration, CPI-median and CPI-trim fell to respective YoY rates of 1.9% and 1.8%, the first time in six years that these two gauges were both below the BoC’s 2% inflation target. Per Bloomberg Economics: “Approximately 34% of spending categories are experiencing inflation above 3%, down from 80% during the peak post-COVID impact. By comparison, 27% of spending categories are showing outright deflation.” Moreover, at 50.1, Canadian Consumer Expectations in the week ended July 17th clocked the sharpest decline in over three months, according to Nanos Research.
Rates traders are clearly pricing rate hike differentials: BoC 11%, Fed 72% and European Central Bank (ECB) 91%. Canada’s inflation headache relief was equally evident in foreign exchange trading. Despite the higher oil price that swung the Loonie, Spot Canada was mildly lower, to C$.7110 from Friday’s C$.7132.
Germany’s producer price index (PPI) also showed upstream pressures fade in June. Led by the -1.8% MoM drop in energy, the 0.3% month-over-month (MoM) decline in the PPI was the first since February (light blue bars). And durable goods PPI was unchanged following May’s 0.2% MoM advance. Upward pressures were limited in Capital goods (0.2% MoM from 0.1%) and moderated for Basic goods (0.7% MoM from 1.4%), landing the PPI on a YoY basis to 1.8%, off May’s 2.2% peak (bright red line).
While future German PPI will reflect higher energy prices, it’s uncertain how great pressures will be outside the energy space. Germany’s Manufacturing purchasing managers’ index (PMI) brandished peak restocking in March, which dissipated through June. To illustrate, Backlogs reached a four-year high of 52.5 only to slide back beneath the breakeven 50 line; ditto for Quantity of Purchases and Supplier Delivery Times, which reinforce the odds that the next PPI report shows a narrow, energy-related gain.
Divergent central bank expectations through year-end reveal a more hawkish tilt for the ECB relative to the Fed and the BoC. Nearly two ECB hikes are priced, half that of the Fed, while in the case of the BoC, it’s less than one hike. The oddity: the Euro Area is a net oil importer, and both the U.S. and Canada are net exporters. The structural differences suggest greater purchasing power pressures on the Euro Area’s consumer and business sectors vis-à-vis that of North America. We concede that the ECB’s headline inflation target explains the divergence. Even so, a little Pennsylvania Dutch Powwowing, Tight Head-Binding or Penny Pressing will likely be needed to alleviate the Euro Area’s private economy inflation headache – or maybe just an end to the Middle East conflict.