Oil’s Tumble Could Be Great for Europe

Lower inflation resulting from falling oil prices could allow European policymakers to adopt more expansionary monetary policies, Credit Suisse said in a new report.

“The contribution to European inflation from energy is now likely to be lower. For the euro area, that could mean HICP [Harmonized Index of Consumer Prices] falls as low as 1 percent, later this year, and in the U.K., the near-term profile for CPI inflation should also be lower,” wrote Credit Suisse analysts in a report on European economics, out on Thursday.

“That raises the possibility that policy from both the Bank of England and the European Central Bank could be more expansionary than would have otherwise have been the case.”

Oil prices have fallen sharply in recent weeks, hit by a cut in oil demand forecasts by global energy agencies, and weak economic data from the U.S. and China, the world’s largest oil consumers.

According to Credit Suisse, the oil price is 20 percent below its peak last August, in euro terms, and 15 percent below its 2012 average.

In its “base case scenario”, Credit Suisse forecasts oil prices will remain unchanged at their new level, resulting in falling inflation in the euro area from June onwards.

“If euro area inflation was to run persistently below the ECB’s definition of price stability, then the case for the ECB to pursue a more expansionary monetary policy will build,” the Credit Suisse report said.

“And in the U.K., a more modest near-term profile projection for inflation, which is likely to be anticipated in the next Bank of England Inflation Report, could ease some of the concerns of the more hawkish members of the Committee about persistent above-target inflation.”

Furthermore, the Credit Suisse analysts said that a 20 percent fall in the oil price could boost euro area growth by 0.3-0.4 percent, but only if the fall-off in price is due to supply-side issues, rather than a decline in global growth.

“If it is due to a sharp slowdown in global growth, then that’s a negative for Europe, especially given the euro area’s dependence on external demand. However, if some or all of the drop is due to supply, then it may prove positive for growth,” they wrote.

The analysts added that the price drop could also benefit Spain and Italy’s terms of trade, as energy comprises a relatively high share of imports for both countries.

“It would also further support the periphery’s continued move into external surplus and reduce their dependence on external financing,” they said.

CNBC