Inflation forecast: 2.2% for 2024 and 3.3% for 2025

As in the eurozone, the slowdown in inflation in Luxembourg was stronger than expected at the end of 2023. STATEC has lowered its inflation forecast for this year to 2.2%, and expects a new wage indexation only in the final quarter of 2024. The lifting of the "tariff shield" at the turn of 2025 would lead to an upward adjustment in gas and electricity prices, pushing inflation to 3.3%. Indexation is expected in the 3rd quarter of 2025.

Inflation continues its downward trend in the Grand Duchy, reaching 3.4% over one year in January 2024. This decline is the result of the fall in the price of petroleum products (-4.4% in January, compared with +3.9% a year earlier) coupled with the gradual slowdown in underlying inflation [1], which stood at 4% in January (compared with 4.8% a year earlier)[2].

Annual Inflation rate and contributions

_{Source: STATEC (forecasts of 06/02/2024 )}

_{Note: The contribution of underlying inflation is defined as the difference between the NICP and the contributions of electricity and petroleum products.}

In recent months, inflation has fallen faster than expected. Oil products are posting negative annual rates, with average inflation of -8.2% in 2023 (compared with +42% in 2022), reflecting the easing of energy markets in Europe. In terms of underlying inflation, the slowdown underway has been supported in particular by the slower rise in food prices following the peak in March. In January, food inflation (6.4% year-on-year) was the lowest for 19 months. For the first time in a year, service prices showed a slight fall in inflation in January (4.7%, down 0.1 percentage points on December). Similar trends can be seen across the eurozone, where inflation fell sharply to 2.8% in January (compared with 8.6% a year earlier).

After the lifting of the "tariff shields", scheduled for 1 January 2025, and in the absence of new measures, inflation should rebound and remain above 3% throughout next year. This is mainly due to positive contributions from electricity and gas.

In 2025, the slowdown in inflation is set to continue in the eurozone...

The main international institutions are still expecting inflation in the eurozone to exceed 2% in 2024 and 2025. The latest forecasts from the International Monetary Fund, the European Commission and the OECD predict, on average, an increase in inflation rates in the eurozone of 3.1% in 2024 and 2.3% in 2025.

The new forecasts from Oxford Economics (OE) anticipate a sharper fall in consumer prices. This is the result of a stronger expected deceleration in energy prices and underlying inflation (excluding energy and food) from the first quarter of 2024. The latest OE forecasts also revise oil price assumptions downwards: USD 76/barrel in 2024 and USD 77/barrel in 2025 (compared with 87 and 80 respectively previously). This fall in crude is amplified in 2024 by the appreciation of the euro against the dollar, which is expected to reach USD/EUR 1.09 (compared with USD/EUR 1.06 previously). The downward effects of the euro's appreciation and the fall in the price of Brent crude will further drive down consumer prices in 2024. OE has therefore revised its inflation forecast for the eurozone to 1.6% in 2024 and 1.2% in 2025 (from 1.9% and 1.0% respectively).

....but not in Luxembourg, if the "energy price shield" is dismantled

In Luxembourg, government measures on energy prices implemented during 2022 and 2023 have kept inflation at a lower level than in the eurozone. In 2024, as in 2023, the price of gas paid by households will not increase by more than 15% compared to its value in September 2022, the price of electricity will not increase and the price of heating oil will benefit from a rebate of 15 euro cents per litre. Without these measures, the price of gas paid by consumers would have been 34% higher in 2022, 60% higher in 2023 and 29% higher in 2024, reflecting the surge in market prices in 2022. The rise in gas prices would also have had implications for the price of electricity, which would have cost around 65% more in 2023 and 2024. In this counterfactual situation, inflation would have reached 7.6% in 2022, 6.6% in 2023 and 3.4% in 2024, with 7 overruns of the indexation deadline between March 2022 and the 4th quarter of 2024.

The above measures apply until 31 December 2024. As a result, from January 2025, and in the absence of additional measures, consumer prices are likely to rise, particularly energy prices. By 2025, STATEC expects gas and electricity prices to rise by 17% and 60% respectively. This forecast is a direct result of price trends on derivative markets and the way in which energy suppliers in Luxembourg[3] are supplied. It goes without saying that market price expectations are volatile, so the resulting forecasts for 2025 should be treated with caution[4].

Reflecting the stronger-than-expected slowdown in inflation towards the end of 2023 and the new EO assumptions, STATEC has revised its inflation forecast for this year to 2.2% (from 2.5% previously). Next year, inflation should rise to 3.3%. The underlying inflation rate is revised slightly upwards to 2.8% in 2024 (compared with 2.7% previously) and to 3.0% in 2025. According to the central scenario inflation forecasts, indexation would take place in the fourth quarter of 2024, with a further payment in the third quarter of 2025.

Forecasts based on alternative energy price assumptions

_{Source: STATEC (forecasts as at 06/02/2024)}

_{* These forecasts include an increase in the CO2 tax of EUR 5/tCO2e in 2025.}  

_{** Average prices including VAT for a residential customer in Luxembourg with an annual consumption of 2,426 m3 of gas and 4,191 kWh of electricity. Based on the assumptions of the Directorate General for Energy of the Ministry of the Economy, these prices are calculated assuming i) for gas: network usage tariffs would increase by 6% in 2025; ii) for electricity: the contribution to the compensation mechanism would return to 3.63 cents EUR/kWh (i.e. the 2021 level) from 2025 and network usage tariffs would increase by 15%.}

Two alternative energy price scenarios

Two alternative scenarios are based on historical deviations in electricity and gas tariffs and the price of Brent crude oil (the latter being reflected in the price of diesel, petrol and heating oil). Taking into account the measures in place, the high and low scenarios for electricity and gas are only considered for the year 2025. The high scenario assumes that, in 2025, gas, electricity and Brent crude will rise by 37%, 93% and 2% respectively. The low scenario anticipates a smaller increase in the price of gas (+10%), electricity (+47%) and a slight fall in the price of Brent crude (-2%) in 2025.

The low scenario anticipates indexation in the 4th quarter of 2024, but no further indexation in 2025. The high scenario anticipates further indexation in Q3 2024, followed by two indexations in 2025: in Q2 and Q3.

_{[1] Underlying inflation is a sub-series of the general index (NICP) which excludes oil prices and other prices formed on international markets.}

_{[2] Inflation in January was affected by the end of the measure reducing certain VAT rates by 1 percentage point in 2023. STATEC estimates that this could have contributed between +0.2 and +0.4 percentage points to inflation (see Regards 08-23 for more information).} 

_{[3] See Chapter 7.2 of Note de conjoncture 1-23.}

_{[4] In fact, a large proportion of the electricity that will be supplied in 2025 has already been purchased during 2022 and 2023 at the market price prevailing at that time. These advance purchases provide a relatively clear view of the electricity tariffs that will be charged in 2025. For gas, the uncertainties are greater because of the structure of the market: most purchases are made only a few months before the delivery date. Consequently, the forecasts are based mainly on market expectations (as at January 2024) for the year 2025.}