Inflation in the eurozone has dropped more than expected, pushing the European Central Bank (ECB) to consider whether further rate hikes are necessary after the anticipated increase this month. The core inflation rate, which plays a significant role in ECB policy discussions, fell from 5.6% to 5.3% in May. Meanwhile, inflation in the 20 nations that share the eurozone fell to 6.1%, down from the previous month’s 7.0%. Although the decline came as a small shock, some economists suggest that it indicates underlying inflation has peaked. They suggest that the ECB could pause rate hikes after July. On the other hand, some believe a July hike is necessary, arguing that the ECB has previously been incorrect in its inflation forecasts.
The latest inflation figures from across Europe have shown divergence. Latvia is one of the hardest-hit countries, experiencing up to a 15% increase in prices. Nations that heavily rely on tourism with strong buying currencies are expected to face a more significant impact from rising services prices this summer season. In Germany, the annual inflation rate decreased from 7.8% to 7.6%. However, food prices are still on the rise, and actions from the government to mitigate energy costs were noted.
Recently, Germany’s public sector workers secured a 5.5% pay increase set to begin next year, setting a precedent for other pay deals threatening the ECB’s forecast for eurozone wage growth this year. These inflation statistics will likely affect the ECB’s decision this month on whether to continue raising interest rates by a quarter or half a percent.
Despite Latvia’s high inflation, Germany, France, and Italy all saw inflation rates drop in May. Food prices, however, continue to increase and pose a challenge. Berlin’s St Wilhelm Roman Catholic Church food bank has recorded a doubling in the number of households served.
The European Union’s report on trade states its deepest trade deficit since 2002, standing at €432bn ($469bn). This deficit is driven by high energy costs and the pandemic. Throughout 2022, imports from outside the EU rose by 41%, while exports only increased by 18%, setting two new records. Luxembourg conducts 90% of its trade with other member states, while Ireland mostly trades outside the EU. The US and China are the EU’s largest global trading partners, with the US leading in importing goods from Europe, and China leading in exporting goods to the EU.
According to Allen-Reynolds, an economist, there are predictions of further rate hikes at later meetings following the March increase. A Reuters survey of 22 eurozone banks showed that most do not expect the ECB to raise rates again before the end of this year. The majority predicted the next hike would be in Q1 2020; however, they still stated that uncertainty remained high. ECB officials have stated that they will not ease the most significant campaign of rate hikes in its history until they are certain inflation is under control. They want to avoid unnecessary pain from higher borrowing costs causing a recession, as economists have warned that Europe is still at risk.
The ECB has raised its benchmark interest rate at six consecutive meetings since last July and now stands at 3%. The survey showed that the implemented hikes have had an impact. According to official data, food prices in the eurozone have risen by 12.5% in May from a year earlier but have decreased from April’s 13.5% increase. Economists suggest that core inflation, excluding volatile food and energy, is still high enough that the European Central Bank is expected to approve an interest rate increase at its June meeting.
Overall, economists remain divided on the best course of action. However, the decision that the European Central Bank (ECB) will make in June about whether to raise interest rates or hold them steady will have massive consequences not only for the eurozone but also for the global economy.
