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Spike in eurozone inflation prompts interest rate fears

THE latest increase in inflation sets stressed Irish borrowers on a collision course with booming German manufacturers.

Preliminary data released by the EU statistics agency Eurostat shows eurozone inflation jumped more than expected in January and is now above the European Central Bank's target for a second month.

The news will increase pressure on the European Central Bank (ECB) to raise interest to curb price increases. Doing that could exacerbate the debt crisis in peripheral economies including Ireland, making it difficult for the ECB to decide on an optimal rate.

The Eurostat figures showed inflation across the 17-member eurozone rose 2.4pc year-on-year. In December, the same measure showed inflation at 2.2pc.

Economists surveyed by news agencies Reuters and Bloom-berg had predicted inflation would hit 2.3pc.

The ECB's target is to keep consumer prices just below 2pc.

The Bank has forecast inflation to average around 1.8pc this year, falling to 1.5pc in 2012.

"Missing the inflation target moves the ECB further away from its comfort zone just when tension in North Africa could feed an energy-price shock," said Ryan McGrath, a bond trader with Dolman Securities in Dublin.

He said the financial markets were already pricing in the likelihood of an interest-rate hike in September.

Yesterday, the euro increased by just over 0.5pc against the dollar to $1.3697 and has risen consistently in recent weeks in anticipation of a rate hike this year.

Corporate borrowers are already seeing their debt costs increase. The European Banking Federation said that the rate Euribor banks charge to lend to each other has already risen.

Three-month Euribor is now 1.074pc, the highest level since July 2009.

Many large corporations borrow at a price that includes three-month Euribor. It means debt costs are increasing even before any interest rates are announced.

The rise in inflation is fuelled by high prices for commodities including oil, which has risen 8.4pc over the past three months. The cost of food is also rising and the boom in exports and consumer spending in big economies including Germany is also driving up input costs.

Inflation in Germany is running at 2pc. Rising day-to-day costs are already prompting Germany's powerful labour unions to seek higher wages, potentially fuelling even further inflation.

Unemployment and weak consumer demand means less inflationary pressure in countries like Ireland. Irish economists even point out that rising costs in Germany boost Ireland's competitiveness.


Even here, however, the danger of "importing inflation" as a result of high prices elsewhere is a concern.

The latest data means that inflation, rather than the sovereign debt crisis, will be the focus when the ECB's board meets on Thursday.

Gary Jenkins of Evolution Securities said the news for the rest of the week would be crucial in deciding what messages come out of that meeting.

"Whether we get more hawkish comments regarding interest rates from (ECB president) Trichet may of course be determined by the political situation in the Middle East as much as the latest economic data," he said in a note to investors.

Irish Independent