Brussels (Brussels Morning Newspaper) – Euro zone inflation rose slightly last month to the European Central Bank’s 2% target, marking the end of the era of rampant prices and shifting policymakers’ attention to trade war-driven economic uncertainty.
Annual inflation in the 20 countries using the euro currency rose to 2.0% in June, up from 1.9% in May, as expected in a poll of economists. This increase was largely driven by lower prices for energy and industrial goods, which offset the rapid inflation in services.
Why did eurozone inflation hit the 2% target?
Core inflation, a closely watched measure that strips out volatile food and fuel prices, remained steady at 2.3%, matching expectations.
Expecting this decline, the ECB has cut interest rates from record highs by two full percentage points over the past year, and discussion has shifted to whether it needs to loosen policy further to stop inflation becoming too low, given sluggish growth.
Progress in bringing down service costs, which have remained stubbornly high for years, is crucial as it has sparked concerns that domestic inflation could become entrenched above 2%.
Why is service inflation still causing concern
Services inflation rose slightly to 3.3% last month, up from 3.2%, as prices increased 0.7% month-on-month. This supports the view of policy hawks that domestic inflation remains unacceptably high, reducing the risk of undershooting.
Financial investors are anticipating a further ECB rate cut to 1.75% by the end of the year, followed by a period of stable rates before potential increases towards the end of 2026.
However, the outlook is complicated by the fact that it hinges on the outcome of a trade dispute between the EU and the US, involving President Donald Trump’s administration.
Is low eurozone growth dampening price pressures overall?
Currently, the conflict has eased price pressures by eroding economic confidence, which has increased the euro’s value and reduced energy prices.
Indeed, the eurozone’s economy is expanding at a very slow pace, with full-year expansion expected to be less than 1%, as industry continues to struggle after a prolonged recession. Private consumption remains weak, and investment is also low.
Should US trade barriers remain, the EU is likely to respond with retaliation, which would undoubtedly drive up inflation. This, in turn, would prompt firms to reconfigure their value chains, resulting in higher production costs.
