EU Inflation Improves ECB Cut Chances

Analysts anticipate that prices across the Eurozone will rise slower in the coming months despite concerns that the ECB has reduced rates too much, with most economists now expecting a rate cut in October.

Aligning the Figures

After higher inflation over the summer, investors expecting further easing from the ECB will welcome forecasts of lower inflation for a second consecutive month. Individual country figures are released in the days leading up to Tuesday's report, with the average forecast predicting Eurozone CPI will drop to 1.8% in September from 2.2% in August. However, core inflation is expected to remain elevated, continuing its gradual decline to 2.7% from the previous 2.8%. Some countries like France and Spain reported figures significantly below expectations last week, sparking speculation that the bloc's overall inflation may undershoot projections while increasing chances of an October cut.

As the European economy underperforms, it lacks some impetus for higher inflation. Unemployment is beginning to rise, with the risk of "unanchoring" inflation expectations as consumers reduce their outlook for future price increases. The reduction in medium to long-term forecasts for inflation among European consumers can be seen as a victory for the ECB's efforts to get inflation under control and pave the way for further rate cuts. However, there appears to be hardening positions between hawks and doves regarding what will occur in October, with Tuesday's key inflation report potentially giving one side the upper hand.​

Potential Cuts in October

The uncertainty around the timing of the next interest rate cut has allowed the euro to remain relatively strong against the US dollar over recent months. This is because rate cuts by the US Federal Reserve were increasingly expected throughout the remainder of the year. However, there have been some concerning signs from the European economy — for example, the recent unexpected drop in manufacturing PMIs. Core inflation has been driven by strong wage growth, but recent unemployment trends could indicate the labour market is loosening with salary increases slowing. Markets now anticipate inflation will fall more sharply than projected in the ECB forecasts, potentially dipping below the target rate by January.

With the ECB possibly lagging in prices, shifting from inflation to deflation, advocates of monetary easing may gain influence at the upcoming October meeting. As of last Thursday, money markets priced a 50-60% likelihood of an interest rate cut at the next meeting, now up to 93%. These figures (and consequently the euro value) could vary substantially depending on the degree to which CPI data exceeds or misses expectations.​

EURUSD in Ending Pattern

The EUR/USD pair has risen after breaking outside its long-term triangle pattern just below the 1.10 level, pointing to 1.17 over the longer term based on the measured-move projection. However, the trend would only be confirmed as having truly changed if the pair surpasses the prior peak of 1.13. The ending wedge pattern appears unfinished but may have also concluded at 1.1250, with a retreat towards 1.0975 possible if bulls lose 1.035.​ Conversely, upside levels lie at 1.14 and 1.15 round resistances.

Source: SpreadEx / EURUSD

Key Takeaways

Analysts expect slower Eurozone inflation in coming months, with some concerned the ECB reduced rates too much and inflation may accelerate again. While it is expected to fall to 1.8% in September, the core is projected to remain at 2.7%, though varying country figures could cause the bloc's inflation to undershoot forecasts. With the economy underperforming and unemployment rising, advocates of monetary easing may gain influence at the October meeting, where a rate cut is now seen as high regardless of inflation.