Clemente De Lucia, Senior Economist at BNP Paribas spoke at the CFO Event May 2014

1. Economic Research Department
Clemente DE LUCIA clemente.delucia@bnpparibas.com
Eurozone: Navigating in a
low inflation environment
CFO Event, May 2014

2. 2
Cont ent s
1. Wher e we ar e…
2. Why i nf l at i on i s so l ow…
3. Ri sks of l ow i nf l at i on l evel s
4. Def l at i on?
5. Shoul d t he ECB act ? Wi l l i t act ? And how?
Eurozone: Navigating in a low inflation environment

3. 3
Inflation trending downwards (y/y %)
Source: BNP Paribas, Eurostat, Markit
Fact or s behi nd t he i nf l at i on decl i ne ( 1)
 I nf l at i on at cycl i cal l ow….
 Eas t er di s t or t i ons ?
 Commodi t i es ?
 Exchange r at e t oo hi gh?
 Thos e ar e pl aus i bl e
expl i cat i ons
 I s t her e s omet hi ng mor e?
Eurozone: Navigating in a low inflation environment
Headline Core
Lower commodity prices? (12 month differences)
-25
-20
-15
-10
-5
0
5
10
15
20
25
-50
-40
-30
-20
-10
0
10
20
30
40
1997 1999 2001 2003 2005 2007 2009 2011 2013
Energy Oil in euro
Contribution to inflation (y/y % and pp points)
-1.0
-0.5
0.0
0.5
1.0
1.5
2.0
2.5
3.0
3.5
4.0
4.5
1998 2000 2002 2004 2006 2008 2010 2012 2014
Energy Food
Core Head

4. 4
Contribution to core inflation(y/y % and PP)
Import prices: Trending downwards
Source: BNP Paribas, Eurostat, Markit
Fact or s behi nd t he i nf l at i on decl i ne ( 2)
 I nf l at i on at cycl i cal l ow….
 Eas t er di s t or t i ons ?
 Commodi t i es ?
 Exchange r at e t oo hi gh?
 Thos e ar e pl aus i bl e
expl i cat i ons
 I s t her e s omet hi ng mor e?
Eurozone: Navigating in a low inflation environment
Core decomposition (y/y %)
0.0
0.5
1.0
1.5
2.0
2.5
3.0
3.5
-0.5
0.0
0.5
1.0
1.5
2.0
1998 2002 2006 2010 2014
40
60
-8
-6
-4
-2
0
2
4
6
8
1999 2001 2003 2005 2007 2009 2011 2013
Non Energy industrial goods
Services
Import pricesNon-domestic producer prices
Input prices (Composite
PMI –rhs-)
y/y % Balance of
opinion
-0.5
0.0
0.5
1.0
1.5
2.0
2.5
3.0
1998 2002 2006 2010 2014
Services
NEIG
core

5. 5
Core inflation: country breakdown (y/y %)
Source: BNP Paribas, Eurostat
Wher e we ar e
 I nf l at i on l ow
 I nt er nal
deval uat i on?
 I s t her e,
however, a
pr obl em of
s l uggi s h
demand?
 Cr i s i s and
l ar ge out put
gap…
Eurozone: Navigating in a low inflation environment
Jan-14 Feb-14
Adjustment in Peripheral countries
(Unit Labour Costs, 2008 Q1= 100)
Peripheral Core
Core inflation decomposition:
Peripheral versus Core countries (y/y %)
Peripheral Core
-3.0
-2.5
-2.0
-1.5
-1.0
-0.5
0.0
0.5
1.0
1.5
2.0
2.5
GR PT ES IE IT EZ NL FR BE DE LU FI AT
Peripheral
Core
EZ
average
March-14
0.5
1.0
1.5
2.0
0.0
0.5
1.0
1.5
2.0
2.5
2005 2007 2009 2011 2013
5.5
6.5
7.5
8.5
9.5
10.5
11.5
12.50.6
1.2
1.8
2.4
3.0
1996 1998 2000 2002 2004 2006 2008 2010 2012 2014
Spare capacity will weigh on inflation
Core inflation Unemployment rate - Inverted scale, right-
100
102
104
106
108
110
112
114
2008 2009 2010 2011 2012 2013
y/y % %

6. 6
Inflation expectations from Survey of Professional
Forecasters (y/y %)
Source: BNP Paribas, CF, Bloomberg, ECB
I nf l at i on expect at i ons …t r endi ng downwar ds
 I nf l at i on and i nf l at i on
expect at i ons …l i nked i n a sel f -
f ul f i l l i ng mechani s m
Eurozone: Navigating in a low inflation environment
5 –Year Ahead 2-year Ahead
…from Consensus Forecasts (y/y %)
Refi rate 1-year Ahead
…and from financial markets (y/y %)
Five years 5year-ahead Tow years 2-year ahead
( )
( )1
; ;
; ;
e
t t t j
e e
t t t j
f
f
π π π χ
π π π χ
−
− −
 =

=
1
1.2
1.4
1.6
1.8
2
2.2
2.4
0.0
0.5
1.0
1.5
2.0
2.5
3.0
3.5
4.0
4.5
5.0
2003 2005 2007 2009 2011 2013
1.0
1.5
2.0
2.5
2000 2002 2004 2006 2008 2010 2012 2014
1.0
1.4
1.8
2.2
2.6
2004 2005 2006 2007 2008 2009 2010 2011 2012 2013
1-year Ahead
 Medi um- t o- l ong t er m i nf l at i on expect at i ons :
pr obl ems of ci r cul ar i t y and r i s k pr i ma
 Bet t er meas ur es at an hor i zon bet ween 1 and
2 year s ahead

7. 7
Source: BNP Paribas, Eurostat
Ri s ks of l ow i nf l at i on
 Eur ozone par t i cul ar l y sensi t i ve t o l ow i nf l at i on
l evel gi ven t he hi gh l evel of debt r at i o i n
sever al count r i es: l ook at t he f l ow- st ock
r el at i onshi p
 Lower bound f or nomi nal r at es. . What about r eal
i nt er est r at es?
 Adj ust ment t hr oughout an i nt er nal deval uat i on
much mor e compl i cat ed i f i nf l at i on i n cor e
count r i es i s l ow
 Buf f er agai nst negat i ve shocks?
 Ent er i ng i n def l at i on? …Def i ni t i on: gener al i zed
f al l of pr i ce component s among sect or s and
count r i es
Eurozone: Navigating in a low inflation environment
Below 1%
Debt dynamics; the case of Italy. What should happen with
low or even falling inflation rates?
Debt ratio
Non Energy Industrial goods…
Below 2%
Below 2% Below 0%
Below 0%
115
120
125
130
135
140
2009 2012 2015 2018
115
120
125
130
135
140
2009 2012 2015 2018
Services breakdown by components…the weakness is
spreading?
0
10
20
30
40
50
60
70
80
1997 2001 2005 2009 2013
Below 1%
0
20
40
60
80
100
1997 2001 2005 2009 2013
1
1
1
t t
i
d d pb
γ π
−
 +
= − ÷
+ + 

8. 8
Act i ons f r om t he pol i cy maker
1. Shoul d t he ECB act ?
 Yes
 Spar e capaci t y, weak r ecover y,
 ECB f ar f r om t ar get , ECB mandat e,
 Asymmet r i c r eact i on?
1. Wi l l i t act ?
 Pr obabi l i t y i s i ncr eas i ng…
 Apr i l ECB meet i ng mor e dovi s h. The Bank mi ght act not onl y t o
count er def l at i onar y r i s ks, but al so t o count er t he ef f ect s of a
t oo l ow l evel of i nf l at i on
1. Whi ch act i ons?
 Convent i onal and/ or non convent i onal meas ur es
 Di f f er ent i ns t r ument s t o addr ess di f f er ent pr obl ems
 Negat i ve depos i t r at es ? Anot her speci al LTROs ?
 Quant i t at i ve eas i ng?
1. When?
 Dat a dependent
Eurozone: Navigating in a low inflation environment

9. Economic Research Department │ 12/05/14│ 9
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