Markets are focused on euro zone inflation figures for June, due to be released on Tuesday, July 2. Inflation is expected to fall to 2.4% year-on-year, according to FactSet consensus estimates. Prices rose 2.6% year-on-year in May, beating economists' expectations.
Core inflation, which measures prices excluding energy and food costs, rose 2.9% year-on-year in May.
“While we still expect some volatility in inflation measures, the June decline is very welcome and reaffirms the ECB's rate cut on June 6th,” said Michael Field, European market strategist at Morningstar.
“Even more important than the movement in headline inflation would be a decline in core inflation, which is the measure central banks pay close attention to as it strips out variables such as food and fuel and gives a more accurate picture of inflation.”
Service inflation is the last mile
According to official data source Eurostat, the largest contributor to euro area annual inflation (HICP) in May was services (+1.83 percentage points, pp), followed by food, alcohol and tobacco (+0.51 percentage points), non-energy industrial products (+0.18 percentage points) and energy (+0.04 percentage points).
Services inflation rose to 4.1% in May from 3.7% in April, raising concerns for policymakers.
“Inflation is unlikely to ease through the end of the year due to inherent stickiness in services prices,” Ombretta Signori, head of macroeconomic research and strategy at Offi Invest Asset Management, said in a June 24 note.
“Meanwhile, wage momentum, a variable highlighted by the ECB, remained high in the first quarter (4.7% y/y and 4.5% y/y for Q4 2023). Based on the ECB's wage expectations index, responses from businesses to the ECB telephone survey and wage data from new job vacancies, wage growth is expected to peak at around 4% this year and not normalize until 2025.”
When will the ECB cut interest rates again?
In its latest economic bulletin published on 20 June, the ECB confirmed that it would take a data-dependent approach to interest rate movements, so June's inflation data will be closely watched.
“Despite the progress made in recent quarters, domestic price pressures remain strong due to strong wage growth and inflation is expected to remain above our target next year,” the ECB said.
Morningstar's Field added: “With the ECB cutting rates for the first time in June, attention will be focused on inflation to gauge how many more cuts there will be this year. Economists' current forecasts are for two, and next Tuesday's inflation release is unlikely to change that forecast.”
Eurosystem staff's latest headline and core inflation forecasts have been revised upwards for 2024 and 2025 compared to the March forecast. Headline inflation is expected to average 2.5% in 2024, 2.2% in 2025 and 1.9% in 2026. Core inflation is estimated to average 2.8% in 2024, 2.2% in 2025 and 2.0% in 2026.
The ECB cut interest rates on June 6 but did not commit in advance to a specific interest rate path.
“[The Governing Council’s] “Interest rate decisions will be based on the assessment of the inflation outlook taking into account upcoming economic and financial data, the development of underlying inflation and the strength of monetary policy transmission,” the ECB said in its June bulletin.
What is driving up inflation?
Risks to rising inflation include stronger-than-expected wage and profit gains, geopolitical tensions that could push up energy and transportation costs, and extreme weather that could push up food prices.
Goldman Sachs expects headline and core inflation in the euro area to be 2.7% and 2.6% year-on-year, respectively, in December 2024.
“Despite some near-term rigidities, we expect euro area core inflation to ease as spillovers from global supply chains and higher energy prices fade,” the bank's analysts said in a June 18 report.
