Inflation continues its moderate downward trend in the euro area, but last month's heavy lifting was mostly a base effect, with seasonally adjusted month-on-month inflation not providing much reassurance about the European Central Bank's impending interest rate cut. It ended with that. Using a unique seasonal adjustment, we see that monthly core inflation rose for the third consecutive month on the back of an acceleration in services inflation. In our view, the ECB wants to break this trend before cutting rates.
Headline inflation also did not fall much, which is not surprising given that energy support measures for consumers have now ended. Consider France, which reintroduced an energy tax in February. Given that the euro area is still recovering very slowly from the negative real income shock, lifting support measures will ultimately dampen demand elsewhere. As a result, this will have an impact on subsequent underlying inflation.
Weak demand is also softening the impact of the Red Sea disruption, as demand for goods remains weak and inventories at manufacturers and retailers remain high. So despite the disruption, the process of commodity disinflation continues. The situation could change again if demand picks up again later this year, but goods inflation is not a concern for the ECB at the moment. Therefore, the main concern remains regarding service sector inflation.
The broader inflation picture will look relatively positive in the coming months. Still, with unemployment at record lows and the economy not in recession, there is no need for the ECB to rush to cut interest rates even as concerns about services inflation persist. Questions remain over the coming months about how quickly wage growth will recede and whether demand for services will be constrained enough to slow core inflation. In any case, the ECB will be happy to keep interest rates on hold next week as it waits for more data.
