EU: Eurozone inflation hits 1-year low, supporting ECB interest rate pause

2023-09-29 13:48:56

Eurozone underlying inflation eased to its slowest pace in a year, supporting expectations that the European Central Bank will keep interest rates unchanged to assess the impact of its campaign of unprecedented rate hikes.

Underlying price gains, which exclude energy and food costs, reached 4.5% in September, Eurostat reported on Friday. That’s down from 5.3% in August and far less than the 4.8% median estimate from a Bloomberg survey of economists.

Headline inflation moderated from 5.2% to 4.3%, a nearly two-year low that was also below expectations, led by a fall in energy costs, but with services also slowing sharply.

German bonds extended gains after the release. The 10-year yield fell 8 basis points on the day, marking the biggest drop since August. The rebound comes after yields rose to almost 3% on Thursday – a level last reached in 2011 – amid concerns that the ECB will have to maintain tight policy for longer to control inflation.

Friday’s data offers the most definitive sign yet that underlying price growth, a key metric as monetary policy has been tightened, is firmly in decline after a summer during which statistical distortions propped it up.

But with both measures still more than double the ECB’s 2% target, markets are bracing for what authorities say will be a prolonged period of high borrowing costs. Highlighting divergent trends across the 20-member eurozone, German inflation fell to a two-year low this month, while Spain’s reading rose back above 3%.

Neither investors nor economists expect the ECB to continue consecutive hikes since July 2022 that have pushed the deposit rate to 4%. Many policymakers agree, even as some continue to warn that shocks – such as oil hitting $100 per barrel – may still justify new measures.

The situation is similar in the US, where the Federal Reserve’s preferred measure of inflation is estimated to have eased below 4% in August, and authorities have signaled they are at least close to peaking rates.

“We are likely to be done with interest rate increases,” Slovenian central bank governor Bostjan Vasle said in a panel discussion on Friday. “We are seeing some signs of falling inflation, also some first signs of sustainability of this trend. But on the other hand, there are still many uncertainties.”

There is mounting evidence that the ECB’s actions are hurting the already struggling economy — further reinforcing the need for a pause. Business loans grew at the slowest pace in nearly eight years in August, data released this week showed, while confidence cooled for a fifth straight month due to consumer pessimism.

Germany, the bloc’s biggest economy, faces the worst problems and production is likely to decline this quarter. Rising wages, however, could drive a recovery in spending and help recover growth later in the year, according to projections published Thursday by research institutes that advise the government.

However, these wage pressures may obscure the path to disinflation. There may not be complete clarity on how quickly price gains will slow until 2024, ECB chief economist Philip Lane said.

While future increases cannot be fully ruled out, interest rates will likely remain where they are “for some time,” Latvian central bank chief Martins Kazaks said on Friday in Riga.