German inflation edges higher to complicate decision making over ECB rate cut outlook

This week’s numbers are unlikely to deter ECB policymakers from reducing borrowing costs on June 6 but they may make officials more hesitant on subsequent moves

Isabel Schnabel, board member of the ECB: Has warned against cutting rates too quickly

German inflation quickened for a second month — underscoring the task for the European Central Bank (ECB) to achieve its 2% target as it prepares to lower interest rates next week.

Consumer prices rose 2.8% from a year ago in May, the statistics office said.

That is up from 2.4% in April and above the 2.7% median estimate that economist had been predicting.

The uptick was largely driven by base effects related to the introduction of a cheap public-transportation ticket, which pushed prices down 12 months ago.

German 10-year yields rose six basis points to 2.65% — the highest since November, while its two-year peer, which is more sensitive to changes in interest rates, hovered close to a six-month high at 3.09%.

The figures kick off a raft of inflation readings from the eurozone’s top economies, culminating in data the eurozone as a whole tomorrow.

They are are also expected to show a slight acceleration, to 2.5% from 2.4%.

Core inflation — which excludes volatile items like food and energy, and has been slowing since July — is seen holding steady.

This week’s numbers are unlikely to deter ECB policymakers from reducing borrowing costs on June 6 for the first time since an unprecedented barrage of hikes was deployed to tame runaway price gains.

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But they may make officials more hesitant on subsequent moves. As the supply shocks of recent years abate, much of the remaining concern centres on service-sector inflation,

Hawks like executive board member Isabel Schnabel and Bundesbank president Joachim Nagel recently warned against loosening monetary policy too rapidly and back-to-back steps in June and July. 

But France’s Francois Villeroy de Gahau have said the ECB should not rule out such a scenario.

Investors have pared cut bets in the wake of unexpectedly strong first-quarter wage data and surveys signalling healthy private-sector economic activity. 

They now only fully price two quarter-point reductions in 2024, with a one-in-three chance of a third.

Germany saw particularly robust pay increases at the start of the year. Negotiated wages surged by 6.2% from a year earlier, compared with 4.7% for the entire eurozone.

In a report last week, the Bundesbank said inflation probably gathered pace in May, predicting it will “fluctuate at a slightly higher level over the next few months”. Wage growth “has exceeded expectations of late, which could mean that the still high price pressure in services will persist for longer”, it said.

Indications of sustained upward pressure in Germany appear to have been boosted by tax-free one-off payments to compensate workers for soaring living costs. “German headline inflation took a notable upward step in May, primarily due to base effects for transport prices,” said Martin Ademmer at Bloomberg Economics.

“However, the general trend is pointing down. We see inflation decreasing in the coming months and dropping below the 2% mark in the second half of the year,” he said.

While Germany does not publish a core-inflation reading in its preliminary release, regional data suggest an advance to 3.3% from 2.9% in May, according to Bloomberg Economics, whose Nowcast model predicts a headline number for June of 2.5%, taking the latest data into account.