We must not take inflation lightly

Prices in Germany are on the rise. Will it stay that way forever? According to ex-Bundesbanker Andreas Dombret, there are four reasons for long-term "inflationary pressure".

Electricity, gasoline and food: Since the beginning of the year, Germans have had to spend more money on many things than before. After almost a decade without significant price increases, inflation is back.

Although the inflation rate, as measured by the consumer price index, fell slightly in June compared with May, experts expect inflation to remain low for the year as a whole. Over the year as a whole, however, experts expect the inflation rate to pick up further.

Andreas Dombret, who sat on the Bundesbank's Executive Board for many years, even goes one step further. In an interview with t-online, he explains why we must also prepare for higher price increases in the long term - and what the European Central Bank (ECB) should do now.

t-online: Mr. Dombret, the inflation rate in Germany fell slightly again in June. Can we breathe a sigh of relief?

Andreas Dombret: No, unfortunately not at all. We must not take inflation lightly. The rise in inflation is not over yet. We should definitely remain vigilant.

Why?

Because we have to expect further price increases in the long term as well. Sure, one or the other effect is only of a temporary nature. But inflationary pressure continues to rise. Four reasons in particular are to blame.

What are they?

First, prices can also rise faster than predicted, for example energy prices. Government intervention to combat climate change will increase the price of electricity, gasoline or heating oil even more in the future than we can perhaps estimate at present. This estimate is not as bold as it sounds, because it is the only way to avert climate change in the first place. The second reason is that inflation has recently been underestimated rather than overestimated.

What exactly do you mean by that?

I'm referring to the economic models that economists use to predict inflation. In recent years, inflation has tended to be overestimated - we all believed that it would rise, but in the end it didn't, and price increases remained at a low level. But things are different now: In my opinion, the models currently tend to assume that price increases will be too low. Unfortunately, the quality of forecasts is not particularly high all in all, and the central banks have repeatedly been wrong on this point in the past. So we should not be too confident about inflation.

What is the third reason?

This is the so-called consumer price index, i.e. the method used to measure price increases in Germany and Europe. At the moment, the statisticians do not yet include the costs of owner-occupied properties, but only rental properties. But that could change in the near future. As soon as the price increases of owner-occupied properties are also taken into account in the cost of living, this will quickly add 0.2 to 0.3 percentage points to inflation.

Added to this is likely to be the increase in wages.

Right, that's the last reason and an extremely important one. Wages will probably not change much this year because many collective agreements are still in force. But there are a number of renegotiations coming up in Germany as early as next year. And it's not unlikely that unions and employers will agree on comparatively high settlements. What's more: In some sectors, demographic change is taking its toll. Not only is there a growing shortage of skilled workers, but there is also a desperate need for unskilled workers, for example in the catering industry. Workers can therefore push through higher wages.

Does this mean that the spectre of rising prices will be with us for some time to come?

Yes, I'm afraid so, although it needn't scare us too much. After all, we are still a long way from hyperinflation, as happened almost 100 years ago in the Weimar Republic. We should therefore remain prudent and not overreact.?

You mean the ECB as the guardian of inflation. What should it do?

At the moment, I don't think the central bank needs to do anything. It can continue to do exactly what it has been doing in recent months. In concrete terms, the loose monetary policy is still right and proper - after all, Corona and the effects of the pandemic are not over yet.

Really? In the U.S., the Fed is already a step further, hinting at a turnaround in interest rates to curb inflation.

That's true. But inflation is also much higher in America, the economy is already running hot there, and the danger of overheating is much greater there than here. This point in time has not yet been reached in Europe.

When will that be?

It's too early to say. In general, we should be careful not to announce the next steps too far in advance in a crisis situation like the one we are currently facing. That is neither serious nor helpful.

But the purchase of government bonds can hardly continue in the long term, can it?

No. One thing is clear: The current bond-buying program was created by the ECB for an exceptional situation, namely to combat the Corona crisis. And as soon as this exception no longer applies, as soon as the crisis is largely under control, the program will have to end again.

When do you think this will happen?

Then, when the main government measures to contain the pandemic are phased out again and the economy solidifies again in a sustainable way. And hopefully that will be the case in the foreseeable future.