Inflation slows, raising hopes the peak has passed

Irish consumer price inflation is estimated to have eased last month while euro zone inflation returned to single digits for the first time since August, fuelling hopes that the bloc’s worst-ever spike in prices has peaked.

Consumer prices in Ireland were 8.2 per cent higher in December compared with the same month in 2021, a Central Statistics Office (CSO) flash estimate indicates, down from 9 per cent in November. The overall euro zone annual inflation figure is expected to have dropped to 9.2 per cent last month, down from 10.1 per cent in November, Eurostat said. A fall in energy prices largely drove the slowdown.

Just six of the countries that use the euro had annual inflation rates lower than Ireland last month, the CSO said, while 12 had higher rates. Latvia had the highest estimated inflation rate at 20.7 per cent, while Spain had the lowest at 5.6 per cent.

The flash estimates are subject to revision when the final results are published, the CSO cautioned.

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The slowing growth in prices comes as a relief to European governments, which are under pressure from squeezed consumers, and has raised hopes that the peak of the inflation surge driven by the disruption of energy supplies due to the invasion of Ukraine has passed.

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Energy was the greatest factor driving inflation, and falling energy prices are largely responsible for the sudden drop.

Inflation was estimated to have held steady or risen slightly on a monthly basis in seven countries in the euro zone, but to have slumped by 1.2 per cent in Germany and 1.4 per cent in Luxembourg. Ireland’s monthly inflation rate slowed by 0.3 per cent.

Highlighting how inflation continues to menace Europe’s economy, a measure of underlying price pressures that strips out energy and food edged up to a record 5.2 per cent across the euro zone. It is this gauge that the European Central Bank is likely to focus on as it pushes ahead with what is already the most aggressive bout of interest rate hikes in its history.

In the US, the Federal Reserve is also looking past an easing in headline inflation, warning investors against underestimating its will to tighten monetary policy for some time yet.

A second month of slowing price increases in the euro zone – which expanded to 20 countries from 19 this month as Croatia joined – came after Germany’s government paid some households’ natural gas bills to cushion the surge in costs since Russia invaded Ukraine.

But while slower inflation in the continent’s biggest economy and beyond will be welcomed, the ECB pledged last month to lift the deposit rate past its current level of 2 per cent.

The peak for borrowing costs may not be reached until nearer summer, according to Bank of France chief François Villeroy de Galhau. “We’ll then be ready to remain at this terminal rate as long as necessary,” he said in Paris on Thursday. “The sprint of rate increases in 2022 becomes more of a long-distance race, and the duration will count at least as much as the level.”

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ECB governing council member Martins Kazaks expects “significant” increases at the next two meetings in February and March. In Latvia, where he heads the central bank, inflation reached as high as 22 per cent and remains near that.

ECB president Christine Lagarde has cautioned against focusing on changes in Europe’s headline rate, saying “we cannot be fixated on one single number” as there are “good reasons to believe” price growth will pick up again in January.

“Stubbornly high” underlying inflation will keep interest rates at higher levels following hikes in February, March and “probably even in the second quarter,” according to Carsten Brzeski, an economist at ING.

“The ECB will start moving its focus away from headline inflation to core inflation and wage growth,” he said before Friday’s data were released. “This will be the argument for the ECB not to cut interest rates.”

The short-term, unseasonably warm weather has calmed fears of an energy crunch and brought gas prices down to pre-war levels. But with the euro zone now only expected to experience a short and shallow recession, demand – and inflation, in turn – could hold up.

The latest ECB projections see price gains averaging 6.3 per cent in 2023 and remaining above the 2 per cent target in 2025. – Additional reporting by Bloomberg