Eurozone Inflation Starts to Slow

Eurozone inflation has eased more than expected this month, while latest survey results suggest recession risks have mounted.

Annual inflation in the 15-country region dropped to 3.8 per cent in August, down from a record 4 per cent in July, according to Eurostat, the European Union’s statistical unit. The fall almost certainly reflected lower energy costs and followed better than expected inflation figures this week from Germany and Spain.

However, the decline is unlikely to lead to a change of tone at the European Central Bank, which fears pipeline price pressures will keep inflation well above its target for some time and that the sharp slowdown in growth will not lead to a dramatic improvement in the inflation outlook.

The ECB, which aims to keep annual inflation below but close” to 2 per cent, has been alarmed at the pace at which eurozone labour costs have been rising and believes prices are much slower to adjust than in other economies. It is expected to keep its main interest rate unchanged at 4.25 per cent next week, and financial market do not expect any cut until well into next year.

In the latest evidence that a significant slowdown is under way, the European Commission reported its eurozone economic sentiment indicator had this month sunk to its lowest level since March 2003. The latest drop – from 89.5 in July to 88.8 in August - extended an already-sharp fall in last month’s survey.

The euro, which has fallen by more than 5 per cent against the dollar so far this month, was strengthened 0.2 per cent against the US currency on Friday to $1.4727.

Analysts said the move merely reflected profit taking after the dollar’s recent surge, which is the US currency’s best monthly performance against the euro since the creation of the single currency in 1999.

The Commission’s survey offered some brighter news on inflation prospects. It showed consumers had become markedly less pessimistic about price trends in the next 12 months. That could be seen as significant by the ECB, which worries that inflation expectations” tend to become self-fulfilling. With this year’s surges in oil prices largely explaining the weakness in eurozone consumer spending, it also offered the prospect of some improvement in growth prospects in coming months.

However the survey also showed worries about unemployment in the next 12 months had risen to the highest level since October 2005 – suggesting consumers would remained nervous.

Eurozone Inflation Starts to Slow, Financial Times
8/29/2008 5:58:37 AM