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EU predicts flattening inflation but slow relief for consumers

The European Commission hopes to see household spending increase as inflation drops below 6.5%

(CN) — The European Union’s spring economic forecast published Monday anticipates steady growth as inflation and energy costs decrease, though relief may be slow to reach the average consumer as core inflation continues to strain household spending.

“Thanks to determined efforts to strengthen our energy security, a remarkably resilient labor market and easing supply constraints, we avoided a winter recession and are set for moderate growth this year and next,” economic commissioner Paolo Gentiloni said in a statement. “Inflation has proved stickier than expected but it is forecast to decline gradually over the remainder of 2023 and in 2024.”

The quarterly report published by the European Commission anticipates GDP to increase 1% as inflation peaks at 6.7% before dropping to 3.1% next year. These rates are just a few points higher than the 6.4% inflationary peak anticipated by the Winter Quarterly Economic Forecast published in February.

The cooling of inflation has been hailed as a success for EU energy policy. Following a reduction in energy use and diversification of supply, the EU economy is less dependent on Russian imports and therefore less suspectable to developments in the war in Ukraine.

Prior to Russia's invasion of Ukraine last year, the EU imported more than a quarter of its crude oil from Russia, along with 46% of solid fuel and 40% of natural gas needed.

In anticipation of Russia potentially cutting off energy supplies to the EU, member states agreed to reduce their energy use in the months leading up to winter. While the EU remains largely dependent on Russian oil, Eurostat tracked a dramatic 20% reduction in fossil fuel use this past fall.

The EU still sourced 22% of its coal from Russia over 2022, but trade was completely cut off by the fourth quarter of the year with sanctions prohibiting any coal purchases from Russia. To make up the shortfall, EU members are buying more from Colombia and South Africa.

By the end of 2022, the EU imported just 21% of natural gas, 22% of fertilizer, 21% of petroleum oil and 10% of iron and steel from Russia.

In all, the EU cut an estimated $12 billion worth of trade with Russia over the last year.

To make up the difference, the EU increased petroleum trade with Saudi Arabia and the United States. The United States also supplied the EU with more natural gas and fertilizer than in pervious years. EU increased imports of iron and steel from China.

Preparations that began last fall mean the EU was poised to weather winter without further power cuts.

“The EU weathered the energy crisis well thanks to the rapid diversification of supply and a sizeable fall in consumption,” the report said. “As the EU approaches the gas-refilling season, gas storage levels are at comfortable levels and risks of shortages during next winter have considerably abated. Further supply diversification and the accelerated increase in renewable power generation are expected to allow the EU to continue replacing fossil-based sources, including gas, while reducing the likelihood of renewed price pressures.”

While energy costs have fallen, core inflation for processed food and non-energy industrial goods and services hit a record 7.6% in March. While core inflation is expected to decrease to 3.6% by next year, higher costs continue to restrict household spending.

As decreases in inflation manifest, household spending is expected to increase nearly 2% next year. Household saving is therefore expected to drop from 13.2% last year to 12.8% this year.

“Core inflation remains persistently high, which could erode people’s purchasing power, slow investment growth and impede access to credit,” said Valdis Dombrovskis, executive vice president for An Economy that Works for People, in a statement. “To keep inflation in check, it is vital to make sure fiscal policy remains prudent, and to maintain the momentum of reforms and investments.”

When households regain disposable income, governments may begin reducing their own debt by cutting economic support measures.

A new thread of uncertainty follows in the wake of the Silicon Valley Bank collapse and increasing challenges at Swiss bank Credit Suisse. The risk of turmoil may drive EU banks toward conservative monetary policies, with tighter lending standards and higher borrowing rates restricting the flow of credit and slowing investment. The report therefore anticipates the housing market to contract while business investment slows, but continues to grow.

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