Analysis-'New shock' for European markets as gas price spike fuels
inflation fears
Send a link to a friend
[August 24, 2022] By
Tommy Wilkes, Yoruk Bahceli and Dhara Ranasinghe
LONDON (Reuters) - Another dramatic spike
in natural gas prices appears to have ended any hopes that Europe's
inflation battle is set to ease, with financial markets now bracing for
higher prices, a faster pace of interest rate hikes and a deeper
economic downturn.
Just a few weeks ago, signs that inflation in the United States - which
tends to lead world economic shifts - might be peaking boosted stocks
and lowered government borrowing costs. Investors bet central banks
would now pay more attention to slowing economies, with a peak in the
rate-hiking cycle nearing.
Instead, this week began with a forecast from U.S. bank Citi that UK
inflation would rocket to a near half-century high of 18.6% by January,
a prediction that dominated British newspaper front pages on Tuesday.
That landed as another explosive rise in natural gas prices showed
little sign of slowing, with Russia signalling further squeezes on
exports and European buyers scrambling for supplies before winter.
![](http://archives.lincolndailynews.com/2022/Aug/24/images/ads/current/lincolnag_sda_FAIR_2022.png)
Gas prices have surged almost 40% in August and nearly 300% this year.
"The key is energy, energy, energy. There is an energy crisis, let's be
honest about that, electricity prices are 10 times pre-COVID levels,
that is a shock to the system," said Thomas Costerg, senior economist at
Pictet Wealth Management.
"The U.S. and Europe are on different paths. We all knew that the
Achilles' heel of Europe is foreign energy and now they are paying the
price for that," he said, referring to European reliance on Russian gas.
'COMPLETELY REVERSED'
So it's no surprise the mood has soured fast. World stocks have shed
4.3% from a 3-1/2 month high last Tuesday, the euro has pushed back
below $1 and U.S. 10-year Treasury yields are back at 3%.
Monica Defend, head of the Amundi Institute, predicts a fall in the euro
to $0.96 by December because of Europe's weak economy.
Concern is growing that central bankers, gathering at this week's
Jackson Hole symposium, are laying the ground for more aggressive rate
hikes than previously expected. Without some certainty about when the
hiking will end, investors are nervous.
"The market was increasingly confident that recession is going to be the
dominant theme, that central banks were going to be more conciliatory or
relaxed in their policy tightening," said Richard McGuire, head of rates
strategy at Rabobank. "Since the beginning of last week that has
completely reversed."
![](http://archives.lincolndailynews.com/2022/Aug/24/images/ads/current/flossie_sda_FAIR_2022.png)
[to top of second column] |
![](../images/082422PIX/busine35.jpg)
Flames from a gas burner on a cooker are
pictured in a private home in this illustration picture taken June
27, 2022. REUTERS/Stephane Mahe/Illustration/File Photo
![](http://archives.lincolndailynews.com/2022/Aug/24/images/ads/current/graue_sda_FAIR_2022.png)
HIGHER INFLATION
Just take a look at market-based measures of inflation expectations. Short-term
gauges in the euro zone and Britain jumped to record highs this week.
One long-term gauge watched by the European Central Bank (ECB) in the euro zone
rose to 2.24% on Tuesday, after falling below the ECB's 2% target in July..
ECB policymaker Isabel Schnabel warned last week that inflation expectations may
be getting "de-anchored", central bank speak for a loss of trust in the bank's
willingness to deliver on its mandate.
Societe Generale strategist Kenneth Broux called Schnabel's comments a "seminal
moment", with central bankers concerned inflation won't ease fast enough.
In Britain, a similar inflation gauge rose to 3.82% this week, from 3.4% in late
July.
Two-year British government bond yields, trading at their highest since 2008,
saw their biggest weekly jump since 2010 after data last week showed inflation
hit 10.1% in July. Investors on Tuesday were betting the Bank of England would
not stop hiking until June 2023 and rates are around 4.2%. Before the inflation
reading, they expected a peak of 3.25% in March.
Euro zone markets have also raised where they think ECB rates will peak next
year, by about 50 basis points to around 2%, Refinitiv data shows.
Craig Inches, head of rates and cash at Royal London Asset Management, said the
rise in market-based inflation gauges showed markets were now focused on "the
next round of inflationary impact". Causes range from a European drought, to the
gas crisis and pandemic-related supply constraints in China.
![](http://archives.lincolndailynews.com/2022/Aug/24/images/ads/current/Applegate_sda_FAIR_2022.png)
"There seem to be numerous stories that can point to more entrenched, embedded
inflation," he said, adding markets were now asking themselves "how high do
interest rates need to go"?
Inflation expectations are rising in the United States too, but the outlook for
Europe looks much gloomier.
"Inflation in Europe was expected to rise in the fourth quarter but the scale of
the rise we're now facing is a new event because of the renewed surge in gas
prices," said Holger Schmieding, chief economist at Berenberg.
"That is a new shock that was not foreseen a few weeks ago."
(Additional reporting by Huw Jones and Marc Jones; Editing by Mark Potter)
[© 2022 Thomson Reuters. All rights
reserved.]This material may not be published,
broadcast, rewritten or redistributed.
Thompson Reuters is solely responsible for this content. |