Falling German and Spanish inflation raises hopes of ECB rate cuts

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German inflation fell more than expected to 2.3 per cent in November, raising questions about whether the European Central Bank may soon need to consider cutting interest rates.

The figure — mirroring a similar undershoot by Spanish inflation relative to forecasts earlier on Wednesday — signals that eurozone inflation is also likely to fall below expectations when that data is released on Thursday.

Some economists responded by cutting their forecasts for eurozone annual price growth, which was already expected to drop from 2.9 per cent in October to a more than two-year low of 2.7 per cent in November. Goldman Sachs cut its forecast to 2.5 per cent.

“As disinflation is not only a German phenomenon but widely spread across the entire eurozone, the ECB runs the risk of underestimating the disinflationary momentum as much as it underestimated the inflationary momentum two years ago,” said Carsten Brzeski, global head of macro research at Dutch bank ING.

Germany’s federal statistical agency said annual consumer price growth had slowed in all categories, helping the EU harmonised rate of inflation in the eurozone’s largest economy to fall to a more than two-year low of 2.3 per cent.

That was down from 3 per cent a month earlier, and from a peak of 11.6 per cent a year ago. Economists polled by Reuters had forecast a much smaller drop to 2.7 per cent.

Analysts said the fall in German services inflation from 3.9 per cent in October to 3.4 per cent in November was an encouraging sign that underlying price pressures were abating, even if it reflected a post-summer fall in package holiday prices.

Tomasz Wieladek, economist at investor T Rowe Price, said: “If it turns out that the slowdown in German services inflation is broad-based, this would be a pretty good indicator that monetary policy is significantly too tight, given that a lot of the effect of the 2023 tightening is still to come through.”

German energy prices fell 4.5 per cent in November, while food prices rose at a slower pace of 5.5 per cent. Core inflation, excluding energy and food, was 3.8 per cent, down from 4.3 per cent a month earlier. The figures prompted investors to increase their bets on an early ECB rate cut, sending Germany’s two-year bond yield down to an almost six-month low of 2.84 per cent. The euro fell 0.26 per cent against the US dollar.

The figures prompted investors to increase their bets on an early ECB rate cut, sending Germany’s two-year bond yield down to an almost six-month low of 2.84 per cent. The euro fell 0.26 per cent against the US dollar.

However, ECB policymakers have warned that the “last mile” of bringing inflation down to their 2 per cent target could be bumpy.

German central bank boss Joachim Nagel has forecast that inflation in the country would rise again to more than 3 per cent as energy and food subsidies were removed. ECB president Christine Lagarde said this week it was “not the time to start declaring victory”.

The OECD on Wednesday forecast that the ECB would not start cutting rates until 2025 because of persistent price pressures, pointing out that more than half of the items in inflation baskets in the US, the eurozone and the UK still showed annual rates of more than 4 per cent. 

“Today’s data were a dovish surprise from a monetary policy perspective,” said Martin Wolburg, economist at Generali Investments. But he predicted the main disinflationary drivers of falling energy prices and slowing food inflation would “peter out” next year, keeping German inflation higher than 2 per cent throughout 2024.

Separate Spanish data published on Wednesday showed that inflation in the country declined for the first time since June, after lower fuel and tourism prices helped to bring down the headline rate, defying expectations for it to keep rising.

The harmonised index of consumer prices in Spain was up 3.2 per cent in November, falling from 3.5 per cent in the previous month and below the 3.7 per cent level forecast by economists in a Reuters poll. Core inflation, excluding energy and fresh food, dropped from 5.2 per cent to 4.5 per cent.