It is important to remember that for core inflation to fall (headline inflation may fall if energy prices fall):
▪ The unemployment rate must be higher than the structural unemployment rate;
▪ The interest rate must therefore be higher than the neutral interest rate (even if there is doubt over the pertinence of the theory of the neutral rate).
These two conditions point towards a far more restrictive monetary policy than is expected in both the United States and the euro zone. We estimate that the structural unemployment rate is 4.5% in the United States and 8.5% in the euro zone; and that the nominal neutral interest rate is 4.3% in the United States and 3.4% in the euro zone. For inflation to fall, the unemployment rate will have to rise to 4.5% from 3.6% in the U.S. and to 8.5% from 6.8% in the eurozone. In key rate, the Fed would have to hike rates above 4.3% (not 3.3%, which is the current expectation by markets) and the ECB would have to take the cost of money to 3.4% (not 1.9%). - Natixis Research
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