Moody’s: Greece is weak in the face of the ‘spectre’ of stagflation

Her Eleftherias Kourtalis

While Greece appears to be less exposed to a persistently high inflation scenario than the rest of Southern Europe, policy options to combat a stagnant cycle are among the weakest in the European Union, Moody’s warns.

Russia’s invasion of Ukraine has worsened the situation on the supply and demand fronts and pushed inflation to levels not seen in the European Union since the mid-1980s, the house said in today’s analysis.

EU consumer price inflation reached 9.6% in June 2022, the highest level since 1983. Although global supply chain issues that are partly responsible for the recent rise in prices have eased slightly, the businesses continue to report major shortages of equipment and materials.

Although not Moody’s baseline scenario, a complete cutoff of Russian gas supplies would likely intensify these pressures, weaken economic activity and increase the risk of a stagnant inflationary environment.

Based on their weaker economic growth, greater exposure to entrenched inflation and limited policy options, Southern European states appear more exposed to a stagflation scenario, which is, in Moody’s view, a multi-year period during in which inflation remains significantly higher than in recent decades, while real GDP growth remains significantly lower, at or near zero.

Most central banks in Central and Eastern Europe have already started raising interest rates in response to inflation, but slowing economic growth, increased debt burdens and a divergence in the business cycle will complicate the European Central Bank’s efforts. “Although the ECB has raised interest rates, the indicative Taylor rule suggests that its monetary policy is too expansionary for the three main EU economies and the euro area as a whole. If its actions continue to lag the Fed’s, the euro will could continue to depreciate and further fuel inflation,” Moody’s warns.

Southern Europe is in any case more exposed to a stagflation scenario.

Malta, Cyprus, Portugal, Slovenia and Croatia are more vulnerable because they are more likely to see transitory price increases become permanent and have relatively low policy options.

Although Italy, France and Spain are less vulnerable to inflation, already high debt levels, increasing exposure to floating interest rates and significant principal and interest payments due over the next 12 months increase risks.

Finally, as the house emphasizes, Greece and Romania seem to be less exposed to a scenario of “entrenched” inflation, however the policy possibilities for combating a stagnant inflationary cycle are among the weakest in the EU.