Eurozone inflation unexpectedly falls

Eurozone inflation has fallen unexpectedly to the lowest level since February, weakening the case for further European Central Bank interest rate increases. Annual inflation in the 17-country region fell to 2.5 percent in July from 2.7 percent in June, according to a preliminary or “flash” estimate by Eurostat, the European Union’s statistical office. Although inflation remains above the ECB’s target of an annual rate “below but close” to 2 percent, economists had feared a further rise this month. With no details provided by Eurostat, the latest dip may have been caused by statistical effects and economists said inflation was likely to reaccelerate in coming months. But the latest data will encourage the ECB to exercise caution at its interest rate setting meeting next Thursday, which may anyway be overshadowed by the US fiscal crisis. Evidence has mounted in recent weeks that economic growth across the eurozone has slowed markedly, especially in regions worst hit by the region’s debt crisis. A European Commission survey earlier this week showed eurozone economic confidence had dropped to the lowest for a year. With even countries such as Germany showing signs of weakening “a pause in the (ECB) tightening cycle is becoming increasingly likely,” said Peter Vanden Houte, economist at ING in Brussels. The ECB has lifted its main interest rate twice this year, most recently earlier this month by a quarter percentage point to 1.5 percent. Jean-Claude Trichet, president, has so far sent no clear signal that further rises in official borrowing costs will follow. Financial markets have pencilled-in another rise before the end of the year – but the ECB is expected to remain firmly in a “wait-and-see” mode next Thursday. The central bank fears higher inflation cause by soaring oil prices will become entrenched by feeding through into other costs. Such “second round” effects may weaken as a result of the economic slowdown, however. Offsetting some of the gloom, Germany’s statistical office reported an unexpectedly sharp 6.3 percent seasonally-adjusted rise in retail sales in June compared with May – the biggest monthly increase since German reunification in 1990. That suggested falls in unemployment were feeding through into stronger domestic demand, which could continue to power economic growth as the global economic outlook worsens. But German retail sales data are often unreliable indicators of consumer trends and the latest readings may have been distorted by methodological changes and difficulties making comparions between months with different numbers of working days. In May, retail sales had fallen by 2.5 percent.