Euro area HICP Preview: Peak inflation or base effects? No trade-off for ECB (for now)

“There is no trade-off between price and financial stability,” European Central Bank (ECB) President Christine Lagarde said earlier this month, following the announcement of a 50 basis points (bps) rate hike despite the banking sector turmoil.

With that in mind, investors gear up for the preliminary estimate of the March Harmonised Index of Consumer Prices (HICP) data across the euro area economies. Spanish and German inflation data will be reported on Thursday, followed by the French and Eurozone HICP prints on Friday.

Falling EU inflation but not yet a peak

In February, French, Spanish and German inflation data accelerated across the time horizon. French Consumer Prices Index (CPI) unexpectedly rose 7.2% in the year to February, hitting the highest level since the Euro was launched in 1999. Spanish Consumer Price Index in February also surprised to the upside, arriving at 6.1%, up from January’s 5.9%. Germany’s annual HICP for February rose by 9.3%, beating 9.0% estimates and a 9.2% increase seen in January.

Meanwhile, the annualized Eurozone HICP softened a bit to 8.5% in February vs. January’s 8.6% and the expected 8.2% clip. The core HICP, however, climbed to 5.6% YoY in February, hitting record highs. Services prices drove a big pickup in core inflation, which lead the European Central Bank to stick with its planned 50 bps rate hike this month.

As the ECB emphasized its data-dependent stance and abandoned rate hike guidance at its March meeting, the central bank will closely scrutinize the March HICP readings in the eurozone’s largest members, including Germany, France and Spain, for its policy move in May. Spanish annualized HICP is seen lower at 4.3% in March while the German gauge is expected to drop to 7.5% YoY in the reported period. The March inflation in France is also likely to soften to 6.5% annually.

The flash estimate for Eurozone is likely to decelerate to 7.2% YoY in March while the annualized Core HICP is seen a tad higher at 5.7%. The expected decline in inflation across the euro area economies in March is mainly due to the base effects, in the wake of a spike in oil prices in March 2022 due to the Russia-Ukraine war.  However, higher global agricultural commodities prices and elevated food inflation will continue to pose upside risks to the overall inflation, watering down expectations of peak inflation. Further, sticky Core HICP reading from the bloc could also keep the ECB on track in its fight to curb inflation.

Amidst the recent banking sector debacle and tightening financial market conditions, there is increased downside risks to the euro area inflation outlook in the coming months. However, Lagarde was clear that the ECB’s mandate to bring inflation back to the 2% target isn’t clouded by the financial risks.

EUR/USD implications

Easing price pressures in Spain, Germany and France will clearly indicate inflation softening in the Eurozone. Therefore, the HICP data releases in these economies will likely trigger a bigger reaction for the EUR/USD pair than on the overall Eurozone inflation print.  

In case of bigger-than-expected falls in euro area inflation, traders will be convinced that it could be the last ECB rate hike in May before the central bank adopts a wait-and-see approach. This scenario would render Euro negative. 

On the other hand, an unexpected acceleration in inflation in some of the largest euro area economies combined with sticky Core CPI, could keep the ECB on its rate hike trajectory, implying that they are far from seeing peak inflation. The EUR/USD recovery could strengthen on hot euro area inflation readings.