Euro zone inflation surges to 10-year high, in big headache for ECB

FRANKFURT (Reuters) – Euro zone inflation surged to a 10-year-high this month with further rises still likely to come, challenging the European Central Bank’s benign view on price growth and its commitment to look past what it deems a transient increase.

Consumer prices in the 19 countries sharing the euro rose by 3% this month, after increasing by 2.2% in July, far above expectations for 2.7% and moving well clear of the ECB’s 2% target.

The increase was fuelled energy costs but food prices also surged, while there were also unusually large increases in the prices of industrial goods, said Eurostat, the EU’s statistics agency.

The numbers are likely to make for uncomfortable reading at the ECB, which has repeatedly raised its inflation projection this year only for the actual numbers to beat its forecasts, even as price growth is likely to peak only in November.

With inflation in Germany, the euro zone’s largest economy and the ECB’s biggest critic, expected to approach 5% in the coming months, the bank is likely to come under increasing public pressure to address inflation that is reviving long-dormant memories of runaway prices.

ONE-OFF FACTORS

The ECB argues that a slew of one-off factors related to the economy’s reopening after the COVID-19 pandemic account for the bulk of the inflation surge, and that price growth will quickly moderate early next year.

Indeed, policymakers argue that inflation will languish well below the bank’s target for years to come, so they even reinforced their commitment last month to keeping monetary policy exceptionally loose to generate price pressures.

Speaking to Reuters last week, ECB chief economist Philip Lane argued that these inflation surprises still did not challenge his views about the temporary nature of price pressures as wage growth, a necessary component of durable inflation, remained muted.

While ECB policymakers are acknowledging that they underestimated price pressures in the near-term, they continue to point to weak underlying inflation readings as supporting evidence for loose policy.

Core inflation, however, also surged in August with inflation excluding volatile food and fuel prices accelerating to 1.6% from 0.9%, while an even narrower measure that also excludes alcohol and tobacco, rose to 1.6% from 0.7%.

The ECB will next meet on Sept. 9 and must decide on the pace of its bond purchases over the coming quarter. While some adjustment is possible, Lane argued that it would be at the margins as the ECB is committed to maintaining “favourable financing conditions”.

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