Consumer prices rose 2.6% year-on-year in May, beating expectations, and core inflation rose to 2.9%. This comes as the European Central Bank (ECB) prepares for a possible interest rate cut on June 6.
advertisementEurozone inflation rose sharply in May, beating economists' expectations just days before the European Central Bank announced its first interest rate cut in four years.
The euro zone's Harmonized Consumer Price Index (HICP) rose 2.6% year-on-year in May, up from 2.4% in April and above expectations of 2.5%, according to provisional data from Eurostat. This would be the first annual increase in inflation since December 2023. On a monthly basis, the HICP rose 0.2%, slowing from 0.6% in April.
Notably, energy inflation turned positive at 0.3% year-on-year for the first time since April 2023. Core inflation, which excludes food and energy, also rose in May, ending nine months of deflation. Core inflation rose to 2.9% in May from 2.7% in April, beating expectations of 2.8%. Monthly core inflation rose modestly to 0.4%, slowing from 0.6% in April.
Among member states, the highest annual inflation rates in May were in Belgium (4.9%), Croatia (4.3%) and Portugal (3.9%), with Portugal recording its highest annual inflation rate in a year.
Conversely, Finland (0.5%), Italy (0.8%) and Lithuania (0.8%) had the lowest annual inflation rates.
Will the ECB refrain from cutting interest rates next week?
The preliminary inflation data for May is one of the last major indicators before the European Central Bank's (ECB) Governing Council meeting on June 6, when a 25 basis point interest rate cut is widely expected.
Several ECB policymakers have signaled recently that they would like to cut rates in June, suggesting that a slight rise in inflation is unlikely to change their plans.
If the ECB does not cut rates, it could send a signal to market participants that it is concerned that inflationary pressures are resurfacing and that it believes it is necessary to keep interest rates under control.
As chief economist Philip Lane said in a May 27 speech, the Fed is expected to cut interest rates in June without committing to further cuts.
Lane stressed that the pace of future rate cuts would likely slow if underlying inflation, particularly in the domestic and services sectors, unexpectedly picks up.
The ECB forecast that core inflation will average 2.5% year-on-year in the second quarter of 2024.
Given April's 2.7% and May's 2.9%, the June figure would need to be between 2% and 2.1% to match the ECB's previous forecast, which seems unlikely.
The deadline for the ECB's June macroeconomic forecasts has passed, increasing the likelihood of a slight upward revision to its second-quarter core inflation forecast.
At her press conference, ECB President Christine Lagarde is also likely to say that the return of core inflation to the 2% target may be slightly slower than previously expected.
Financial markets currently expect the ECB to cut rates by 61 basis points by the end of the year, implying just one further 25 basis point cut in 2024 after the expected cut in June.
Market reaction
Following the inflation report, the euro strengthened slightly against the dollar, with the EUR/USD exchange rate rising to 1.0840.
Bond yields in major European countries rose, with Germany's 10-year bund yield rising to 2.7%, which could reach its highest level since mid-November 2023.
advertisementItalian and French yields also rose by around 4 basis points.
Europe's main stock indexes were slightly lower, with the DAX and CAC 40 down 0.2% and the Euro Stoxx 50 down 0.1%.
