EUR/GBP shifts below 0.8600 as German Deflation fades longer-term hawkish ECB bets

The EUR/GBP pair has shifted its auction below the round-level support of 0.8600 after a perpendicular sell-off in the Asian session. The cross was heavily sold on Wednesday after German Inflation softened more than anticipated.

German economy which is already in recession after reporting contraction in Gross Domestic Product (GDP) figures consecutively for two quarters, reported deflation for May by 0.2%, which could be the outcome of weak retail demand and higher interest rates from the European Central Bank (ECB). Annual preliminary German Harmonized Index of Consumer Prices (HICP) surprisingly softened to 6.3% vs. the estimates of 6.8% and the former release of 7.6%.

ECB President Christine Lagarde announced that more than one interest rate hike is appropriate to tame Eurozone inflation. However, fresh incoming data is fading longer-term hawkish ECB bets. However, ECB policymaker Madis Muller cited on Wednesday, “It is very likely that the ECB will hike by 25 bps more than once as core inflation is still stubborn.”

Going forward, Eurozone Inflation (May) will remain in the spotlight. Analysts at Societe Generale cited “We expect the May inflation data to deliver another massive decline in headline inflation from 7% yoy in April to 6% in May. Meanwhile, we think easing goods inflation will help core inflation fall from 5.6% to 5.5%, with a downside risk of 5.4% – which is set to increase the pressure on the ECB to do more rate hikes.”

Meanwhile, sticky United Kingdom inflation would keep forcing the Ban of England (BoE) to remain hawkish for a longer period. UK’s inflation softened to 8.7% in April but is expected to miss UK PM Rishi Sunak’s promise of halving inflation by year-end as food inflation is still hovering near 46 years high and labor shortages will remain a concern.

BoE Monetary Policy Committee (MPC) member Catherine Mann noted on Wednesday that the gap between the headline and core inflation in the UK is more persistent than in the US and the Euro area, as reported by Reuters. She further added that firms will use it if they have high pricing power and said that they will remain on a path that has an "awful a lot of volatility."