Mon Mar 02 04:00:00 CST 2015

Consensus Actual Previous
Year over Year -0.5% -0.3% -0.6%

Annual inflation last month provisionally posted its first increase since last October. A minus 0.3 percent flash yearly rate was up 0.3 percentage points from January's final mark and also comfortably stronger than expected.

However, the less negative tone to overall HICP inflation was not mirrored in the two core measures. Hence, excluding food, alcohol, tobacco and energy as well as omitting just unprocessed food and energy, prices were up 0.6 percent from a year ago, unchanged from their final January print. Non-energy industrial goods inflation even ticked lower to minus 0.2 percent but services saw a 0.1 percentage point increase to 1.1 percent. Rather the main boost to the headline rate came from energy, where inflation climbed 1.4 percentage points to minus 7.9 percent, and food, alcohol and tobacco, where the rate jumped from minus 0.1 percent to 0.5 percent.

The surprisingly large rebound in inflation last month will come as a big relief to the ECB, not least Chief Draghi who will again have to expound on the central bank's monetary stance on Thursday. In fact, since the monetary authorities' last policy setting meeting in January economic news has been generally more positive. Nonetheless, the improvement has come from a base of unacceptably weak growth and negative inflation and, as today's data make plain, underlying deflation pressures are as strong as ever. Draghi would be wise not to make too much of what, from the perspective of a meaningful and sustainable economic recovery, could yet prove to be just a flash in the pan.

The harmonized index of consumer prices (HICP) is an internationally comparable measure of inflation calculated by each member of the European Union using a specific formula. Since January 1999, the European Central Bank has used the HICP as its target measure of inflation. The early, or flash, estimate based on incomplete data is released about two weeks before the detailed release. This contains only a limited breakdown but still provides some early insights into underlying developments.

The measure of choice in the European Monetary Union (EMU) is the harmonized index of consumer prices which has been constructed to allow cross member state comparisons. An investor who understands how inflation influences the markets will benefit over those investors that do not understand the impact. In the European Monetary Union, where monetary policy decisions rest on the ECB's inflation target, the rate of inflation directly affects all interest rates charged to business and the consumer.

Inflation is an increase in the overall prices of goods and services. The relationship between inflation and interest rates is the key to understanding how indicators such as the CPI influence the markets - and your investments.

Inflation (along with various risks) basically explains how interest rates are set on everything from your mortgage and auto loans to Treasury bills, notes and bonds. As the rate of inflation changes and as expectations on inflation change, the markets adjust interest rates. The effect ripples across stocks, bonds, commodities, and your portfolio, often in a dramatic fashion.

By tracking inflation, whether high or low, rising or falling, investors can anticipate how different types of investments will perform. Over the long run, the bond market will rally (fall) when increases in the HICP are small (large). The equity market rallies with the bond market because low inflation promises low interest rates and is good for profits.