ECB struggles to ease consumer perception of high inflation

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Sebastian Werner’s family farm has had a weekly stall selling its apples, berries and honey beside the 1,000-year-old cathedral in the German town of Mainz since the 1970s — but in the past few years he has noticed a worrying shift.“I know almost all our customers here and some of the older ones stopped buying our produce after they retired, saying they can no longer afford it,” he said. “Prices keep going up — rents, petrol and electricity — so they have less money to spend.”Heidi Sohn, a butcher from just across the Rhine in Wiesbaden, agreed with him. “Prices are a bit too high — rents are definitely too much,” she said, adding that to afford somewhere to live she needed to move out of the city.Ask anyone at the European Central Bank’s headquarters 20 miles away in Frankfurt about inflation and they are likely to express frustration at its persistently low level. Yet at the Mainz farmers’ market, many people think the opposite.Prices shot up in shops and restaurants when the euro replaced the Deutsche Mark in 2002, said Ludwig Kloster, a baker from the nearby town of Bad Kreuznach, adding: “The cost of living is still going up.” He aims to retire to Latin America, where “things cost half as much”.In recent years eurozone consumers have consistently believed inflation in the bloc to be much higher than it actually is. Households think annual inflation averaged close to 9% between 2004 and 2015, according to a European Commission survey.In fact, inflation has averaged 1.7 per cent a year since the euro launched in1999 according to the ECB — in line with the central bank’s core target of below but close to 2 per cent — and never exceeded 4.4 per cent.If the public believe prices are rising faster than they are, they will struggle to understand why the ECB is keeping rates in negative territory.This matters because the ECB’s main objective is to maintain price stability; when prices rise too fast, or grow too slowly, it needs to act.The central bank has expanded its range of policy tools in a bid to boost the prices, including cutting interest rates to a record low of minus 0.5 per cent and buying more than €2.6tn of bonds. Yet despite this, in December inflation was still only 1.3% — slightly up on last year’s lows, but not by much.The mismatch between people’s perception of prices and the reality will be on Ms Lagarde’s mind on Thursday when she outlines the framework for the ECB’s first review of monetary policy strategy in 16 years.Ms Lagarde has pledged to make “bringing the ECB closer to the people” one of her priorities.An option is to change the inflation calculation, putting more emphasis on housing costs, which currently have a much lower weighting than the share of income most people spend on rent or mortgages. Some economists say this helps to explain why many people perceive inflation to be higher than it is.Other policymakers argue the ECB should target a band instead of a single figure. Proponents include Klaas Knot, the Dutch central bank boss, and Benoît Cœuré, an ECB executive board member until last month.Having missed its current inflation target for many years and struggled to explain why, a lot is riding on the ECB’s strategic review. Given the confusion about prices among eurozone citizens — including those at the farmers market in Mainz — the central bank may now have a hard time convincing people to have more confidence in any new objective.

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