In the U.S. and Europe, underlying inflation has stopped falling or edged higher recently, weakening the case for rate cuts
4 min
Inflation is proving stickier than expected in the U.S. and Europe, creating a headache for central bankers and sowing doubts on whether investors are too optimistic about the world economy.
The decline in inflation from highs of around 9% to 10% across advanced economies in 2022 represent the easy gains, as supply-chain blockages eased and commodity prices, especially for energy, normalised.
The “last mile” is proving tougher . Underlying inflation, which excludes volatile food and energy prices, slowed to 3% in the second half of last year across advanced economies but has since moved up to 3.5%, according to JP Morgan estimates.
That is forcing investors to rethink bets that inflation would steadily decline to central banks’ targets, generally around 2%. There are even concerns it could surge again, mirroring the second wave that characterised the high inflation of the 1970s.
Economists’ and central banks’ forecasts of sustained falling inflation depend on “strong gravitational forces that are not yet validated in global labor costs, short-term expectations, or in recent signals from commodity markets,” JP Morgan wrote in a note. Services inflation remains elevated while goods prices, which had fallen last year, are now moving higher, it noted.
Central bankers say they expected the last mile of falling inflation to be bumpy. Yet they are also signaling their willingness to wait before cutting interest rates. Fewer, or no, rate cuts would have sweeping repercussions for the global economy and markets, whose recent rally began after a narrow majority of Federal Reserve officials recently reaffirmed projections to cut interest rates three times this year.
On Friday, the U.S. Commerce Department reported that the price index of personal-consumption expenditures, the Fed’s preferred indicator of inflation, rose a relatively tame 2.5% in the 12 months through February, up modestly from 2.4% in January. Beneath the surface, the trend was less comforting. The index excluding food and energy climbed by 3.5% on an annualised basis in the three months through February, up from around 2% late last year.
“These shorter-term inflation measures are now telling me that progress has slowed and may have stalled,” Fed governor Christopher Waller said in a speech Thursday, before the latest inflation data.
“In my view, it is appropriate to reduce the overall number of rate cuts or push them further into the future,” Waller said.
Fed Chair Jerome Powell struck a more balanced note Friday, saying inflation is on a sometimes bumpy path toward 2%, and strong economic growth allows policymakers to wait. “Is progress on inflation going to slow for more than two months?…We’re just going to have to let the data tell us that,” Powell said in an interview at the San Francisco Fed.
Joachim Nagel , president of Germany’s Bundesbank and a member of the European Central Bank’s rate-setting committee said in late February that underlying inflation in the eurozone was still 2 percentage points higher than its 1999 to 2019 average.
“If we reduce interest rates too early or too sharply, we run the risk of missing our target,” and might need to raise interest rates again, he said. He highlighted a recent International Monetary Fund report that found four out of every 10 inflation shocks since the 1970s had yet to be overcome even after five years.
In Italy, underlying inflation climbed to 2.4% in March from 2.3% the previous month, according to data published Friday. French headline inflation cooled to 2.3% in March, but services prices remained sticky, rising by 3% from a year earlier.
Why is inflation proving stubborn?
Despite the sharp interest-rate increases of the past two years, economic growth is resilient, especially in the U.S. The Atlanta Fed said Friday its real-time indicator of first quarter U.S. economic growth ticked up to 2.3% from 2.1%. Consumer spending, adjusted for inflation, increased by around 5% on an annual basis in February, the Commerce Department said.
“The unexpected strength of real consumption” means “there is still no rush to cut interest rates,” said Paul Ashworth , an economist with Capital Economics.
While Europe’s growth has stalled since late 2022, recent business surveys suggest the outlook is brightening. Meanwhile, job creation has been strong on both sides of the Atlantic, and wage growth remains high, partly reflecting tight labor markets. Wages are an important input to services-price inflation in the eurozone, which has been running at a 4% annual rate since November.
March inflation data for the entire eurozone will be published on Wednesday. ECB officials have indicated they could start to cut interest rates in June from the current 4% level, while the subsequent pace of cuts after that is unclear.
Central banks themselves may be inadvertently adding to inflation pressure. By signaling a pivot toward interest-rate cuts last fall, they pushed global borrowing costs down and asset prices up, supporting spending.
Some factors favour inflation declining further. In both the U.S. and Europe, a surge of immigration could help keep a lid on wage increases.
The U.S.—but not Europe—is also seeing big increases in productivity, that is output per worker, which helps to offset high wage growth. It is unclear, however, how long that will last. The pandemic might have changed how Americans work and use technology, but “once we have made those changes, they’re done, so I don’t see this as a driver of sustained productivity growth,” the Fed’s Waller said.
Meanwhile, oil prices have risen recently, which could push up headline inflation.
To offset a slumping property market, China has dramatically boosted manufacturing capacity and exports, which have weighed on global goods inflation. But its export prices have recently started to increase, according to JP Morgan.
If central banks react to stubborn inflation by backing away from rate cuts, that would put pressure on both heavily indebted governments and employers. That could test central banks’ will to finish the last mile and push inflation all the way to target.
Higher government spending on defence and green energy, and geopolitical tensions that crimp global trade, are likely to pressure central banks to tolerate higher inflation over the coming years, according to a Brookings Institution paper published in March.
“A strengthening of central bank independence combined with a more credible public debt policy is likely needed,” said the paper, by economist Kenneth Rogoff of Harvard University and three co-authors.
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Selloff in bitcoin and other digital tokens hits crypto-treasury companies.
3 min
The hottest crypto trade has turned cold. Some investors are saying “told you so,” while others are doubling down.
It was the move to make for much of the year: Sell shares or borrow money, then plough the cash into bitcoin, ether and other cryptocurrencies. Investors bid up shares of these “crypto-treasury” companies, seeing them as a way to turbocharge wagers on the volatile crypto market.
Michael Saylor pioneered the move in 2020 when he transformed a tiny software company, then called MicroStrategy , into a bitcoin whale now known as Strategy. But with bitcoin and ether prices now tumbling, so are shares in Strategy and its copycats. Strategy was worth around $128 billion at its peak in July; it is now worth about $70 billion.
The selloff is hitting big-name investors, including Peter Thiel, the famed venture capitalist who has backed multiple crypto-treasury companies, as well as individuals who followed evangelists into these stocks.
Saylor, for his part, has remained characteristically bullish, taking to social media to declare that bitcoin is on sale. Sceptics have been anticipating the pullback, given that crypto treasuries often trade at a premium to the underlying value of the tokens they hold.
“The whole concept makes no sense to me. You are just paying $2 for a one-dollar bill,” said Brent Donnelly, president of Spectra Markets. “Eventually those premiums will compress.”
When they first appeared, crypto-treasury companies also gave institutional investors who previously couldn’t easily access crypto a way to invest. Crypto exchange-traded funds that became available over the past two years now offer the same solution.
BitMine Immersion Technologies , a big ether-treasury company backed by Thiel and run by veteran Wall Street strategist Tom Lee , is down more than 30% over the past month.
ETHZilla , which transformed itself from a biotech company to an ether treasury and counts Thiel as an investor, is down 23% in a month.
Crypto prices rallied for much of the year, driven by the crypto-friendly Trump administration. The frenzy around crypto treasuries further boosted token prices. But the bullish run abruptly ended on Oct. 10, when President Trump’s surprise tariff announcement against China triggered a selloff.
A record-long government shutdown and uncertainty surrounding Federal Reserve monetary policy also have weighed on prices.
Bitcoin prices have fallen 15% in the past month. Strategy is off 26% over that same period, while Matthew Tuttle’s related ETF—MSTU—which aims for a return that is twice that of Strategy, has fallen 50%.
“Digital asset treasury companies are basically leveraged crypto assets, so when crypto falls, they will fall more,” Tuttle said. “Bitcoin has shown that it’s not going anywhere and that you get rewarded for buying the dips.”
At least one big-name investor is adjusting his portfolio after the tumble of these shares. Jim Chanos , who closed his hedge funds in 2023 but still trades his own money and advises clients, had been shorting Strategy and buying bitcoin, arguing that it made little sense for investors to pay up for Saylor’s company when they can buy bitcoin on their own. On Friday, he told clients it was time to unwind that trade.
Crypto-treasury stocks remain overpriced, he said in an interview on Sunday, partly because their shares retain a higher value than the crypto these companies hold, but the levels are no longer exorbitant. “The thesis has largely played out,” he wrote to clients.
Many of the companies that raised cash to buy cryptocurrencies are unlikely to face short-term crises as long as their crypto holdings retain value. Some have raised so much money that they are still sitting on a lot of cash they can use to buy crypto at lower prices or even acquire rivals.
But companies facing losses will find it challenging to sell new shares to buy more cryptocurrencies, analysts say, potentially putting pressure on crypto prices while raising questions about the business models of these companies.
“A lot of them are stuck,” said Matt Cole, the chief executive officer of Strive, a bitcoin-treasury company. Strive raised money earlier this year to buy bitcoin at an average price more than 10% above its current level.
Strive’s shares have tumbled 28% in the past month. He said Strive is well-positioned to “ride out the volatility” because it recently raised money with preferred shares instead of debt.
Cole Grinde, a 29-year-old investor in Seattle, purchased about $100,000 worth of BitMine at about $45 a share when it started stockpiling ether earlier this year. He has lost about $10,000 on the investment so far.
Nonetheless, Grinde, a beverage-industry salesman, says he’s increasing his stake. He sells BitMine options to help offset losses. He attributes his conviction in the company to the growing popularity of the Ethereum blockchain—the network that issues the ether token—and Lee’s influence.
“I think his network and his pizzazz have helped the stock skyrocket since he took over,” he said of Lee, who spent 15 years at JPMorgan Chase, is a managing partner at Fundstrat Global Advisors and a frequent business-television commentator.
