Sub-2% inflation pressures the ECB to switch to faster cuts

After a series of sub-2% inflation prints from the bloc’s largest economies in recent days, eurozone-wide CPI dipped to 1.8% in September.

On a month-on-month basis, prices fell –0.1%. Services inflation remains high at 4.0%, but it also contracted on the month.

The ECB’s doves have a very strong case now to go to the Governing Council meeting in a few weeks’ time and say: ‘Let’s get moving’. When officials meet, they are going to have to face up to advanced disinflation, a crumbling economic recovery, and consumer confidence in a trough. Policy is far too restrictive given the tough macro environment, and a switch to consecutive rate cuts seems to be a given now that disinflation is in its late stages.

The remaining hawks will point to stickiness in the yearly services inflation print to justify a pause, but prices actually fell on a monthly basis, and the leading signals are clear that momentum is cooling, particularly for backward-looking wage negotiations that are now going to be conditioned on 2% inflation.

The risks to the bullish EUR/USD case have multiplied over the past few months. With the implied rate paths for the Fed and the ECB now similarly priced, the lagging ECB narrative that had compressed the dollar’s yield advantage has disintegrated, and if either central bank is going to see a dovish repricing at this point, it’s the ECB.