Inflation in the eurozone fell more than economists expected to reach its lowest level since Russia’s invasion of Ukraine more than a year ago, but the head of the European Central Bank indicated that more rate hikes are needed to tame persistent price pressures.
Annual consumer prices in the 20-country currency bloc rose 6.1 percent in the year to May, down from 7 percent in April, according to Reuters. published data by the European statistics agency Eurostat on Thursday. It is the lowest level since February 2022 and less than the 6.3 percent expected by economists in a Reuters poll.
European Central Bank President Christine Lagarde said letter Shortly after the data was released, inflation was still “very high” and that further interest rate increases were needed to bring it down to its 2 percent target.
Interest rate setters in the eurozone focus particularly on core inflation, which excludes energy and food prices. This measure fell from 5.6 percent in April to 5.3 percent in May, which was more than expected but seemed unlikely to convince policy makers to stop raising interest rates at their next meeting on June 15.
Sovereign bond markets in the eurozone slumped and the euro rose against the dollar as investors bet that inflation had not fallen fast enough to stop the European Central Bank from raising interest rates. The two-year German rate-sensitive bund yield rose 4.8 basis points to 2.76 percent, while the euro rose 0.25 percent to $1.072.
Economists said the drop in core inflation was due in large part to the impact of Germany’s launch of a subsidized public transport ticket of €49 per month in May, which dampened price growth for transport services.
“While a more gradual decline in the base rate seems likely, we don’t think that will stop the ECB from raising interest rates in June and possibly July,” said Jack Allen Reynolds, an economist at the research group Capital Economics.
The annual inflation rate has fallen in 18 of the 20 member states of the eurozone, and it has only increased in the Netherlands. Pricing pressures have also cooled across all product areas for the first time since they began rising at the fastest pace in a generation over 18 months.
But Lagarde cautioned that “there is no clear evidence that core inflation has peaked.” And while lending has stalled in the eurozone, Lagarde told a German banking event in Hanover that consumer surveys from the European Central Bank “show that tighter monetary policy will not affect people’s holiday plans.”
The European Central Bank has already raised the deposit rate at an unprecedented rate, from -0.5% in July to 3.25% in April. Investors are betting that it will raise interest rates by another quarter of a percentage point at its next meeting in two weeks and again in July before stalling.
Comparing the ECB to “an airplane climbing to cruising altitude”, Lagarde said it needed to raise prices quickly at first but “as it approaches its target altitude it can reduce acceleration and maintain its current airspeed”.
Price pressures remained higher in the euro area than in the US, where consumer price inflation fell to 4.9 percent in April. Prices fell faster in both the eurozone and the United States than the United Kingdom, with inflation reaching 8.7 percent in April.
Lagarde warned that higher wage growth “has become a more important driver of inflation.” While eurozone workers have suffered a 4-percentage-point drop in real wages since the pandemic hit in 2020, she said tight labor markets mean they have “significant bargaining power, which they’re starting to use to offset these losses”.
Separate data from Eurostat on Thursday showed that the unemployment rate in the eurozone fell to a new record low of 6.5 percent in April.
Energy prices in the eurozone fell 1.7 percent from a year ago in May, after rising 2.4 percent in the previous month. Services inflation fell from 5.2 percent to 5 percent, while goods inflation fell from 6.2 percent to 5.8 percent.
Lagarde said falling energy prices should “limit companies’ ability to increase profit margins, which has been a major factor driving recent price pressures.” It said the ECB’s responsibility was to “constrain demand sufficiently” to prevent a self-reinforcing spiral of wages, profits and prices, adding that German wages rose 5.1 percent in the first quarter.
Food prices eased slightly in May, while continuing to rise at a rapid rate. Fresh food inflation fell from 10 percent to 9.6 percent, while prices for processed food, alcohol and tobacco rose 13.4 percent – from 14.6 percent in the previous month.