Inflation in the euro zone rose to 2.6% in May, according to statistics agency Eurostat. This was higher than expected, as economists had forecast a 0.1 percentage point increase from April’s figure of 2.4%. Core inflation, which excludes energy, food, alcohol, and tobacco, also increased to 2.9% from 2.7% in April. Despite this, market expectations for an interest rate cut from the European Central Bank (ECB) next week remained unchanged.
The ECB is widely expected to cut interest rates at its upcoming meeting on June 6, which would be the first reduction since 2019. The central bank began raising rates in July 2022, bringing them out of negative territory to 4% at present. Any deviation from a 25 basis point cut at the upcoming meeting would be a significant surprise to markets, as policymakers have been signaling a cut for weeks.
Money markets are currently fully pricing in a rate cut in June, followed by just one more reduction in 2024. While headline inflation increased in May, fluctuations in the rate are expected in the coming months due to base effects from the energy market and the unwinding of government fiscal support schemes across the euro zone. Despite the recent increase, inflation has remained below 3% for the past eight months, cooling significantly from a peak of 10.6% in October 2022.
ECB members may focus on services inflation, which rose to 4.1% from 3.7%, as a key indicator of domestic inflationary pressures. The staff will release their latest inflation and growth projections at the upcoming meeting, providing more insight into the potential pace and level of cuts this year. Overall, while inflation has increased in May, the ECB’s decision to cut interest rates next week remains unchanged based on market expectations and signals from policymakers.
In summary, inflation in the euro zone rose to 2.6% in May, exceeding expectations, with core inflation also increasing to 2.9%. Despite this, market expectations of an interest rate cut from the ECB at its upcoming meeting on June 6 have not changed. The central bank is widely expected to cut rates, with any deviation from a 25 basis point cut surprising markets. Fluctuations in inflation are expected in the coming months due to base effects and unwinding government support schemes. The focus on services inflation and upcoming projections will provide more clarity on potential rate cuts this year.
