Inflation in Germany and France fell faster than economists expected to reach its lowest levels for at least a year, boosting hopes that an easing of price pressures will allow monetary policymakers to stop raising interest rates in the eurozone soon.
The drop in German annual inflation from 7.6 percent in April to 6.3 percent in May reflects a sharp slowdown in energy prices, as well as lower inflation in food and other goods and services. Economists polled by Reuters had expected a rate of 6.8 percent.
French inflation fell to 6 percent in May, down from 6.9 percent. Slowing price growth across the board except for tobacco kept the French rate below the 6.4 percent level economists had expected.
An easing of price pressures in the eurozone’s two largest economies – combined with a larger-than-expected drop in Spanish inflation to its lowest level in nearly two years – has raised economists’ expectations that the European Central Bank may stop raising interest rates by July.
“We are now seeing clear signs of declining inflation in the eurozone,” said Klaus Festiesen, economist at the research group Pantheon Macroeconomics. “Investors should prepare for change at next month’s (ECB) meeting, paving the way for the hiking cycle to end in July.”
Investors responded by reducing their bets on how far the European Central Bank would raise interest rates. German rate-sensitive two-year bonds rose, while the euro fell 0.5 percent against the dollar to $1.0684, its lowest in more than two months.
There are some signs that the ECB rate hike is starting to take its toll by restraining activity and easing runaway price pressures. The German economy has contracted over the past two quarters, while bank lending in the eurozone has been stagnant for six months.
Tightening monetary policy “had the first dampening effects on activity,” said Krishna Guha, vice-president of US investment bank Evercore, adding that he detected “a marked shift in tone among policymakers.”
Eurozone inflation is expected to fall from 7 percent in April to 6.3 percent in May when those figures are published Thursday, according to a Reuters poll of economists.
But the ECB is focused on core inflation, which excludes energy and food prices, and policymakers have said they want to see the measure fall towards its 2 percent target before they halt interest rate hikes. If core inflation falls by more than the slight decline from 5.6 percent in April that economists expect, that could allow the European Central Bank to stop raising interest rates this summer.
As energy and food prices soared last summer, the European Central Bank raised the deposit rate by an unprecedented amount from a record low of 0.5 percent. The rate is expected to rise by another quarter of a percentage point to 3.5 percent when it meets in two weeks.
Luis de Guindos, vice president of the European Central Bank, said on Wednesday that the latest data was “positive news.” But with underlying inflation still worried, he added: “Is the battle won? I wouldn’t say that.”
There are still signs of persistent price pressures in other parts of the 20-country European single currency bloc. Italian inflation fell, but less than expected, from 8.7 percent in April to 8.1 percent in May. Economists had expected it to drop to 7.2 percent.
Ignazio Fiesco, governor of Italy’s central bank and member of the European Central Bank’s Governing Council, noted that core inflation “remains high”, after falling from 6.7 percent in April to 6.5 percent. He added that the ECB faced a “difficult challenge” to bring inflation down to the 2 percent target without causing an “excessive curb on consumption and investment”.
In Belgium, headline inflation fell to an 18-month low, but core price growth still accelerated, from 8.3 percent in April to 8.7 percent in May.
Germany’s Federal Statistical Office said government support helped bring down energy inflation from 6.8 percent in April to 2.6 percent in May, while the drop in service inflation from 4.7 percent to 4.5 percent was “probably partly due” to the launch of a transport ticket. General subsidized at 49 euros per month.