Eurozone inflation fell back to its lowest level since September 2024, moving further below the European Central Bank's 2% target. Data released on February 4 by Eurostat showed the annual Consumer Price Index (CPI) for January was 1.7%, down from 1.9% in December and below the 1.8% forecast by economists. This data, arriving on the eve of the ECB's first interest rate decision meeting of 2026, provides a key rationale for maintaining the current interest rate level. Core CPI also decreased from 2.3% to 2.2%, while services sector CPI slowed to 3.2%, indicating that price pressures are continuing to ease across multiple sectors. Inflation trends diverged significantly among the 21 member states: Germany's inflation rate reached 2.1%, slightly above market expectations, while France's rate unexpectedly dropped to 0.4%, hitting a five-year low. Markets widely expect the ECB to keep its key interest rate unchanged at 2% for a fifth consecutive time at this policy meeting, reaffirming its assessment that monetary policy is "in a good place." The ECB is likely to stand pat this time. Although official projections suggest inflation will return to target levels after remaining below the 2% goal this year and next, and policymakers generally believe current policy tools are sufficient, a minority of decision-makers have expressed concern about the risk of inflation remaining persistently low. The recent strengthening of the euro could further exacerbate these concerns. Meanwhile, persistently high services inflation remains a focal point for some officials. ECB President Christine Lagarde recently warned that the slow pace of wage pressure moderation could delay the overall decline in inflation. Analysts point out that future developments, such as an escalation of geopolitical risks, a significant appreciation of the euro, or an unexpected rebound in inflation, could still prompt a shift in the policy stance. Overall, Eurozone inflation is expected to remain below 2% over the next two years. Lorenzo Codogno, Founder and Chief Economist of LC Macro Advisors Ltd., noted that while the phrase "in a good place" might still be used, the ECB's application of such rhetoric could become more cautious against a backdrop of heightened global uncertainty and a fragile economic environment. He believes the baseline scenario remains for the ECB to hold rates steady in both 2026 and 2027, with a high threshold for initiating any policy adjustments. The next move could be a rate hike. Despite inflation consistently undershooting the target, most economists see limited room for the European Central Bank to adjust policy in the short term, and the direction of the next move is more likely to be a hike rather than a cut. Paul Hollingsworth, Head of Developed Markets Economics at BNP Paribas Markets 360, indicated that due to resilient underlying price pressures, the ECB is expected to keep rates stable for an extended period, with a high bar for any policy action. He anticipates the next policy adjustment could be a rate hike, possibly in the third quarter of 2027, when domestic price pressures from increased spending in areas like defense and infrastructure are expected to become more apparent. Lorenzo Codogno similarly believes that while there is a modest possibility of policy rates edging lower in the short term, upside risks are more prominent in the medium term. He stated that factors such as escalating geopolitical tensions, a significant appreciation of the euro, or inflation data persistently exceeding expectations could all prompt the ECB to change its current policy stance.
Comments