Current issues related to economy, (responsible) investment, pension and income: every week an APG expert gives a clear answer to the question of the week. This time: chief economist Thijs Knaap on whether the falling energy prices are helping to prevent the impending recession.
The price of natural gas in Europe has fallen sharply recently. While it was still 135 euros per megawatt hour in mid-December, on Wednesday the gas price fell below 70 euros. The price of natural gas has not been this low since February 2022. Assuming that rising energy prices are an important part of the current inflation, the question is to what extent falling energy prices carry over into a reduction in the price level. And - perhaps more importantly - whether falling energy prices can prevent the impending recession. A recession would mean that the Dutch economy had two consecutive quarters of negative economic growth. The third quarter of 2022 saw a small contraction, and for the fourth quarter that seems very likely as well. This makes a recession seem all but inevitable. This is true for a third of the world economy, incidentally, the International Monetary Fund (IMF) recently warned.
It is beyond dispute that the falling energy price will ensure that inflation remains limited, according to Knaap. “The question is to what extent and whether it is enough. In November, inflation in the euro zone was 10 percent. Of that, energy accounted for almost 4 percent. If energy prices were to fall year after year, you could eliminate almost half of inflation. The only problem is that inflation would still be 5 percent.” That percentage is mainly caused by the price increase of food (3 percent), and the rest by that of services and goods. “If you look at the price increases of energy and food that we had before 2008, when inflation was 2 percent (the target rate used by the European Central Bank, ed.), and add that to the current inflation rate for services and goods, you arrive at a total inflation rate of 4 percent. That means that not only energy and food have become much more expensive, but also services and goods. Why is that? Partly because of energy, because you need gas to grow tulips, for example, but also partly because of wages. And those are harder to limit than energy prices.” In short, the falling energy price is keeping inflation down. Yet inflation is still so high that the European Central Bank (ECB) is not yet inclined to stop its interest rate hikes.
With that tightening policy, the ECB is making life more expensive in the EU. This is because borrowing money is costing businesses and consumers more money at higher interest rates. But inflation also leads to loss of purchasing power in a direct sense, Knaap explains. “If you spend 100 euros more on energy, you have 100 euros less to spend in the supermarket. If the price of energy drops, purchasing power can partially recover. The dynamics that occur in a recession, where consumers spend less, companies get into trouble as a result and have to lay off employees, which causes people to spend even less, are slowed down when energy prices fall. And that does make a difference to the severity of the recession, since the price increases were substantial in the past year.” However, Knaap believes that falling energy prices will not be enough to avert the recession, as energy prices no longer sufficiently account for inflation.