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Euro Inflation Slowing More Than Forecast Pressures ECB

ECB President Mario Draghi
With ECB President Mario Draghi warning about the risk of a negative price spiral, the Governing Council is considering measures from negative interest rates to conditional liquidity for banks. Photographer: Jasper Juinen/Bloomberg

Euro-area inflation slowed more than economists forecast in May, cranking up pressure on the European Central Bank to deploy measures as soon as this week to kindle prices and drive growth.

The rate fell to 0.5 percent from 0.7 percent in April, the European Union’s statistics office in Luxembourg said today. The median forecast in a Bloomberg News survey of 38 economists was for a decline to 0.6 percent. The rate has been less than half the ECB’s target for eight months.

With ECB President Mario Draghi warning about the risk of a negative price spiral, the Governing Council is considering measures from negative interest rates to conditional liquidity for banks. The central bank is also contending with high unemployment, which unexpectedly decreased in April while remaining near a record, a separate Eurostat report showed.

“It’s a surprise, but not enough of a surprise to change materially the global economic outlook that the ECB will release on Thursday,” said Michel Martinez, an economist at Societe Generale SA in Paris. “What seems highly likely is that the ECB will cut key rates and probably also inject further liquidity.”

The euro erased losses against the dollar after today’s date were released, trading at $1.3610 at 12:14 p.m. in Brussels, up 0.1 percent on the day.

Of 50 economists surveyed by Bloomberg News, 44 expect the Frankfurt-based ECB to become the first major central bank to take interest rates into negative territory by cutting its deposit rate. All but 2 of 60 respondents said the benchmark rate would also be reduced.

‘Ready to Act’

The ECB has prepared investors for the prospect of stimulus when it announces the rate decisions on June 5. “We are ready to act,” ECB Vice President Vitor Constancio said on May 30. “We are not complacent about the risks from a protracted period of low inflation.”

“The ECB will announce rate cuts, including the deposit rate into negative territory,” said Martinez, who was one of the few economists accurately to forecast the May inflation rate in Bloomberg’s survey.

A possible interest rate cut by 0.1 to 0.15 percentage point would have little impact, as the rate tool has been exhausted, former ECB chief economist Juergen Stark wrote in today’s Frankfurter Allgemeine Zeitung.

The ECB will probably also stop sterilization of its Securities Markets Program and announce a targeted longer-term refinancing operation, Martinez said.

Core Rate

Energy prices stagnated in May, after declining 1.2 percent the previous month, today’s data showed. Prices of alcohol, food and tobacco rose 0.1 percent following a 0.7 percent gain in April. The cost of services increased 1.1 percent.

The core inflation rate, which excludes volatile items such as energy, food, tobacco and alcohol, was 0.7 percent after a 1 percent reading in April, according to Eurostat. Today’s data are estimates. The statistics office will release final figures for May on June 16.

Anemic growth in the euro zone has added to the case for ECB stimulus, as policy makers continue to struggle with the legacy of the debt crisis. Unemployment in particular has proven resistant to their interventions.

The jobless rate fell to 11.7 percent in April from 11.8 percent a month earlier, according to Eurostat. Across the currency bloc’s 18 countries, rates ranged from 4.9 percent in Austria to 25.1 percent in Spain. Among people under the age of 25, the unemployment rate was 23.5 percent.

‘Real Opportunity’

“Unemployment continues to decline in the EU’s 28 member states as a whole as well as in the euro area, which is encouraging,” the bloc’s employment commissioner, Laszlo Andor, said in a statement. “However, many new jobs are precarious, and we are far from ensuring that every person has a real opportunity in the labor market.”

Even Europe’s lowest government bond yields since the Napoleonic Wars are signaling investors want more action from Draghi. Instead of a vote of confidence, the most pronounced rally in 200 years suggests the ECB needs to stave off the risks of stagnation and deflation.

Aside from the prospect of a negative rate, the ECB is working on a proposal for a conditional longer-term refinancing operation and expects to have a plan ready for the June 5 meeting, according to a central bank official familiar with the plans. Details on cost, maturity and the appropriate measure of credit supply have yet to be finalized, the official said, asking not to be identified because the talks are private.

In addition to providing detail on any new ECB stimulus, Draghi will unveil the new macroeconomic projections. The central bank forecast in March that inflation would average 1 percent this year and 1.3 percent in 2015.

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