UPDATE 1-Euro zone inflation drops back to rate-cut level

Mon Mar 17, 2014 8:06am EDT

Related Topics

* Feb annual euro zone inflation revised down to 0.7 pct

* That level triggered ECB rate cut in November

* Rate is joint-lowest since Nov 2009, when it was 0.5 pct

* Cheap fuel, telecom, heating oil dragged down index

* ECB ready to act against possible deflation risks

By Martin Santa

BRUSSELS, March 17 (Reuters) - Euro zone annual inflation dropped back in February to the level that triggered a surprise cut in interest rates in November, revised data showed on Monday, underlining deflation risks in the bloc.

The year-on-year inflation rate in the 18 countries sharing the euro was 0.7 percent in February against 0.8 percent in January, the European Union's statistics office Eurostat said.

The reading was the joint-lowest in four years and a touch below the initial February estimate of 0.8 percent. The annual inflation print last fell to 0.7 percent in October - a decline that persuaded the European Central Bank to cut its key interest rate to a record low of 0.25 percent the following month.

Inflation has not dropped below that level since November 2009, when it stood at 0.5 percent, Eurostat said.

The ECB, which targets inflation at close to but below 2 percent, considers the risk of euro zone deflation as "quite limited", its president Mario Draghi said last Thursday. The bank left borrowing costs unchanged at its most recent meeting on March 6.

Draghi also said the bank has been preparing additional policy steps to guard against possible deflation, and that the longer inflation remained low, the higher was the probability of deflationary risks emerging.

LOW INFLATION 'THE NEW NORMAL'?

But the ECB has already said it expects inflation to only pick up slowly, to 1.0 percent this year and 1.5 percent in 2016, and a minimal dip to 0.7 percent last month seems unlikely to prompt a significant policy change.

"The downward revision to the February inflation figures is unlikely to be enough to trigger further near-term monetary easing," said Martin van Vliet, senior economist at ING. "This will also require a deterioration of the activity and or a further significant strengthening of the euro."

A strong euro has weighed on prices, and the currency fell in reaction to Monday's data, dipping against the dollar and paring gains against the yen.

Month-on-month inflation was 0.3 percent in February, driven by a 0.5 percent rise in prices of services and a 0.4 percent increase in costs of non-energy industrial goods.

Prices of food, alcohol and tobacco fell 0.1 percent on the month, while highly volatile energy costs inched up 0.1 percent.

In February, there were four euro zone countries with negative annual inflation rates, Portugal and Slovakia both with -0.1 percent, Greece with -0.9 percent and Cyprus at -1.3 percent.

"Today's CPI figures are a clear reminder that low inflation may have become the new normal for the euro zone - which certainly won't make it easy for some countries to reduce their debt overhangs," van Vliet said.

Draghi has rejected comparisons with Japan's experience of deflation, which became so entrenched that companies and households held off on spending on expectations of lower prices, leading to two decades of economic stagnation.

Speaking last Thursday, Bundesbank chief Jens Weidmann also said the risk of widespread deflation in the euro zone was very limited, adding that policymakers should not overload monetary policy to haul the bloc out of crisis.(Reporting by Martin Santa; Editing by John Stonestreet)

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