Euro Bid on Inflation & Unemployment Figures

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The Euro to Dollar exchange rate (EUR/USD) was bid after Eurozone inflation met expectations and the area's unemployment rate unexpectedly fell back, but upside will likely remain limited.

Eurozone Inflation met expectations at 2.2% year-on-year said Eurostat, down from 2.6% previously, and the unemployment rate unexpectedly fell to 6.4% from 6.5%.

The inflation numbers represent a notable decline towards the European Central Bank's 2.0% target, but we think investors were weary that it would fall even further after the downside surprises offered by Germany and Spain just 24 hours earlier.

German and Spanish inflation outcomes resulted in weaker euro exchange rates and put the market on alert for another potential downside surprise. The on-consensus reading looks to have, therefore, triggered some relief-style buying interest in the Euro.

EUR/USD was bid at 1.1074 on the data release and rose to 1.1080 in the minutes that followed. EUR/GBP rose to 

Financial markets are reflecting expectations that a September rate cut at the ECB is a dead certainty. However, this week, the odds of a subsequent follow-up rate cut in October increased.

This is because a slew of near-term indicators point to slowing economic activity and fading confidence in the coming months, with concerns centred on Germany. This will keep the ECB alert to downside risks and could prompt them to take more decisive action on interest rates.

However, an October rate cut is by no means assured, given core inflation in the Eurozone remained sticky at 2.8% in August, down from 2.9% in July.

"The downer is the sluggish decline in core inflation compared to overall inflation. This is mainly due to the still high inflation rate in service prices," says Dr. Thomas Gitzel, Chief Economist at VP Bank.

Service inflation increased again in August by 4.2%. In July, this figure was 4%. In a direct monthly comparison, prices increase by 0.4%.

"This development is a manifestation of higher wage costs, which are being passed on by companies, and changes in consumer behaviour. Higher labour costs can be passed on in the service sector primarily because consumers are prepared to bear them. Spending on leisure takes precedence with an accompanying high willingness to pay," says Gitzel.

Should October rate cut bets fade over the coming days and weeks, the Euro could find itself better supported from here.