European Inflation Drops

Europe’s inflation rate fell to the lowest in more than two years in December as oil prices plunged and consumer spending slumped, increasing the scope for the European Central Bank to reduce borrowing costs further., Bloomberg 1/6/2009 5:33:10 AM

Consumer-price inflation in the euro area slowed to 1.6 percent from 2.1 percent in November, moving below the ECB’s 2 percent ceiling for the first time since August 2007, the European Union statistics office in Luxembourg said today. A separate report showed the region’s services industry contracted for a seventh month.

As the global financial crisis damps economic growth, slowing inflation may prompt the ECB to extend a series of interest-rate cuts that already has seen its key rate fall by 1.75 percentage points since early October. The euro extended declines after the inflation report, falling to a three-week low.

The ECB last month predicted the euro-area economy will shrink about 0.5 percent this year, which would be the first annual drop in gross domestic product since the euro’s introduction a decade ago.

Retail sales fell for a seventh month in December, manufacturing shrank at a record pace and lending to the private sector stagnated, reports in the past month showed.

As global growth slows and energy costs decline amid slackening demand, concerns about deflation are increasing. The price of crude oil has fallen by two-thirds since reaching a record $147.27 a barrel in July

ECB policy makers, who aim to keep the inflation rate just below 2 percent, have indicated that the chances the central bank’s governing council will lower borrowing costs when it meets next week are increasing as data show the economy falling deeper into a recession.

If inflation slows too much below the ECB’s ceiling, we can be certain that European monetary policy will respond with interest-rate reductions,” ECB council member Vitor Constancio said in Lisbon yesterday. His pledge echoes comments by ECB Vice President Lucas Papademos on Jan. 4 that lower borrowing costs could be warranted” if price stability were threatened.

Last month, ECB President Jean-Claude Trichet said policy makers were wary of being trapped” with interest rates too low, while Bundesbank President Axel Weber has said he would like to avoid” taking the key rate below 2 percent.

The inflation report released today is an estimate. The statistics office will publish a detailed breakdown of the data, including energy-price inflation as well as the core rate, on Jan. 15.

European Inflation Drops