EUR/USD currency pair remained strong despite the softer than expected German inflation data. The inflation data has been released by the Federal Statistical Office of Germany. The release is important as it will provide fresh insights on the Eurozone economy and affect the ECB’s policy.
German inflation report
Inflation in Germany, as measured by the change in the Consumer Price Index (CPI), dropped to 4.5% on a yearly basis in September from 6.1% in August. This reading came in below the market expectation of 4.6%. On a monthly basis, the CPI rose 0.3%, meeting market expectations.
The European Central Bank’s (ECB) preferred measure of inflation, the annual Harmonised Index of Consumer Prices (HICP), dropped sharply to 4.3% from 6.4% in the same period.
Earlier on Thursday, regional data from Germany showed that price pressures have softened with annual CPI inflation in Brandenburg falling to 5.6% from 7.1%, while in Hesse, the same figure fell to 4.7% from 6%.
With inflation in Europe’s largest economy cooling off further, investors are now expecting softer inflation readings in the bloc’s overall inflation data, which will be announced today.
The headline Eurozone Harmonized Index of Consumer Prices is expected to rise 4.5% YoY in September, down from August’s 5.2% increase. The Core HICP inflation, which is watched by the European Central Bank, is also expected at 4.8% compared to a 5.3% increase reported in August.
Inflation data and ECB monetary policy
The Harmonized Index of Consumer Prices (HICP) inflation data from Germany and the Eurozone is extremely significant as it influences the central bank’s policy decision. European Central Bank (ECB) President Christine Lagarde told the European Parliament’s committee on economic and monetary affairs on Monday that interest rates will stay high “as long as necessary.” Market participants are uncertain whether this would mean that the ECB rate hike cycle has come to an end or whether there is room for one more rate hike this year. The ECB will meet again next month for its monetary policy review.
Commenting on inflation developments, Lagarde explained that price growth will stay “too high for too long” despite the recent decline. She added: “Strong spending on holidays and travel and increasing wages were slowing the decline in price levels even as the economy stays sluggish.” While German numbers showed that inflation has cooled off, it remains to be seen whether Eurozone inflation data will also highlight the same trend or whether it will point to an increase in inflation in light of the recent rise in oil prices.
Fed – ECB monetary policy divergence
The Euro (EUR) has experienced six-month lows against the US dollar, due to the differences between the Federal Reserve and ECB monetary policies. The Fed is widely expected to raise interest rates one more time this year while markets believe that the 25 basis points rate hike delivered on the 25th of September is possibly the last rate hike by the ECB. Additionally, there are growing concerns about the Eurozone economy which is on the brink of recession. On the other hand, based on the latest macroeconomic data released from the US, the US economy has shown promising signs of resilience.
If the Eurozone data on Friday shows that headline and core HICP inflation is hotter-than-expected this could strengthen expectations for one more ECB rate hike before the end of the year. This will definitely give a boost to the EUR/USD. However, if Eurozone inflation shows a bigger than expected drop then the currency pair will likely weaken.