European stocks experienced a decline as investors weighed the possibility of sustained high energy prices leading to prolonged inflation, potentially prompting policymakers to raise interest rates this month. The region-wide Stoxx 600 in Europe fell by 0.4% at the opening, continuing the previous session’s losses. Similarly, France’s Cac 40 and Germany’s Dax saw a 0.4% decrease. Futures contracts tracking the S&P 500 and Nasdaq Composite in the US slipped by 0.1% ahead of the New York opening.
These market movements coincided with investor anticipation for releasing highly awaited US inflation data. Projections suggest that consumer prices may have increased at an annual rate of 3.6% in August, up from 3.2% the previous month.
Inflation surge expected due to increased energy costs
A surge in the headline inflation figure is anticipated due to the sharp rise in energy costs since June, following supply cuts announced by oil exporters Saudi Arabia and Russia to support prices. The international benchmark Brent crude saw a 0.3% increase, reaching $92.3 per barrel, after hitting a 10-month high in the previous session. The US equivalent, West Texas Intermediate, rose by 0.4% to $89.15.
Despite the anticipated increase in the figures, analysts express skepticism about whether Wednesday’s data will exert enough pressure on the US Federal Reserve to raise interest rates in their upcoming meeting next week.
Mike Zigmont, the head of research and trading at Harvest Volatility Management, noted that the number would have to be very hot for the market to think that the Fed will change its policy. The core US inflation rate, which excludes the more volatile energy and food prices, is projected to have declined to 4.3% year-on-year in August, down from 4.7% in the previous month.
The surge in prices, however, led traders to adjust their bets in favor of another rate increase by the European Central Bank, which is set to announce its policy decision on Thursday. Swap markets now indicate a 67% probability that the central bank will raise eurozone interest rates by 0.25 percentage points to 4% this week.
Jason Davis, global rates portfolio manager at JPMorgan Asset Management, commented that if the ECB does decide to hike, they are more likely to indicate a willingness to pause after that, keeping the impact on the terminal rate fairly limited. That suggests a cautious approach towards subsequent rate adjustments.
US is approaching inflation cautiously
Beth Ann Bovino, the chief economist for the US Bank, emphasized the significance of recent months seeing wage gains surpassing inflation. This trend has somewhat restored consumers’ pricing power, which had been eroded during the inflation spike. Bovino pointed out that the big picture is that inflation is much lower than last year. The Fed rate hike action has had an impact and yet, they’re not across the finish line.
While inflation has considerably slowed since the previous summer, when soaring prices in areas like fuel, housing, and used cars drove it to 40-year highs, it remains higher than the levels seen throughout the 2010s. Additionally, it exceeds the Federal Reserve’s stated target of 2%.
The persistent inflation has played a significant role in the substantial rise in interest rates over the past year and a half. The Federal Reserve elevated rates from slightly above zero in early 2022 to their current range of 5.25% to 5.50%, marking the highest levels since 2001.
Since financial institutions use the benchmark US interest rate to determine their interest rates, this increase has led to mortgage and credit card interest rates reaching levels not seen in decades. Interest rates have remained historically low since the 2007-08 financial crisis, which has made borrowing more challenging for individuals and businesses.
If inflation continues to ease, it becomes more likely that the Fed will temporarily halt raising interest rates. Investors and business leaders have been hoping for this, as there is concern that sharp rate hikes could trigger a recession.
Despite the Fed’s efforts to curb inflation by slowing down the economy, the job market has remained tight, wages have continued to rise, and there have been few indications of an impending recession.