Eurozone inflation falls to three-year low, supporting rate cut

Consumer prices rose 2.2% in August from the same month a year earlier, Eurostat reported on Friday (Aug. 30). This was significantly lower than the 2.6% rise in July and was in line with the median estimate of analysts in a Bloomberg survey.

Core inflation, which excludes volatile components such as food and energy, also eased to 2.8% after three months at 2.9%, as economists had predicted.

Positive news on inflation will help sustain the upbeat mood evident at the Federal Reserve’s annual meeting in Jackson Hole last week, when Chairman Jerome Powell joined ECB and Bank of England officials in strongly signaling that rates are coming down.

Investors are betting the ECB will make two or three more cuts this year, plus additional measures in 2025. The historic reduction in June began to dismantle the unprecedented tightening campaign unleashed to control price increases that peaked at 10.6% in 2022.

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“In my opinion, our meeting on September 12 should take action,” said French central bank president François Villeroy de Galhau in comments reported Friday by Le Point magazine. “It would be fair and sensible to decide on a new rate cut.”

But while his Portuguese counterpart Mario Centeno called the September decision to cut the deposit rate from 3.75% to 3.5% “easy”, there have been warnings in recent days from influential officials that his battle against prices remains incomplete.

What Bloomberg Economics says…

“This is good news for the ECB, but we expect the Governing Council to focus more on the unwelcome rise in service sector inflation. This will probably not be enough to dissuade the ECB from cutting the rate by 25 basis points in September. However, persistent underlying pressures will reinforce the case in favour of maintaining gradual, quarterly easing,” said Maeva Cousin, economist.

Executive Board member Isabel Schnabel delivered the latest developments earlier in the day, saying in a speech that risks to the inflation outlook remain, particularly in the services sector, and that the ECB should not cut rates too quickly.

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“As the path back to price stability depends on a number of critical assumptions, monetary policy should proceed gradually and cautiously,” he said in Tallinn, Estonia. “The pace of monetary policy easing cannot be mechanical. It must be based on data and analysis.”

Friday’s Eurostat release revealed that service sector inflation, which is being boosted by strong wage increases for workers, accelerated to 4.2%. The ECB expects price gains to return sustainably to its 2% target by the end of 2025, but expects ups and downs along the way.

That prediction is based on wage growth moderating, corporate profits absorbing some of the wage increase, and higher productivity lowering the cost per unit of output. While second-quarter productivity data was disappointing, wage increases agreed through collective bargaining were smaller than expected over that period.

However, separate data released on Friday suggested further tightness in the labour market, with eurozone unemployment unexpectedly falling to 6.4%.

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That may help lift an economy whose momentum at the start of the year has been faltering of late, strengthening some policymakers’ arguments for another ECB rate cut. Others, however, remain firmly focused on inflation, which Bloomberg Economics forecasts will edge up slightly to 2.3% in September.

“We have to be cautious and not lower interest rates too quickly,” Bundesbank President Joachim Nagel said on Thursday evening. “We are not there yet. Although our 2% target is within sight, we have not reached it.”