The eurozone is facing high inflationary pressures which are likely to make the European Central Bank reluctant to cut rates soon despite further signs of an economic slowdown, data showed on Monday. The European Union's statistics office estimated eurozone inflation at 3.2 percent in February, the second straight month it has been at its highest since such measurements began in 1997.
Furthermore, the February RBS/NTC Eurozone Manufacturing Purchasing Managers Index survey showed that prices charged at factory gates rose at their fastest pace in nearly a year, signalling more inflationary pressures in the pipeline.
The data comes as eurozone finance ministers meet for their monthly discussion of the economy with ECB President Jean-Claude Trichet and ahead of the ECB's rate decision and its new growth and inflation forecasts on Thursday.
"Inflation is likely to remain higher and for longer than the ECB previously expected and we think the central bank will most likely continue to see the balance of risks to its medium- term price stability goal as being tilted to the upside on Thursday," Nick Kounis, senior economist at Fortis bank.
The PMI data also confirmed that manufacturing activity was slowing, underlining the policy dilemma the ECB is facing. The bank, which aims to keep inflation just below 2 percent, expects the current food- and energy-driven inflation to be temporary and is keen to avoid inflation expectations taking hold among consumers.
Higher inflation expectations could mean rises in other sectors and trigger higher wage growth, fuelling a price-wage spiral. The ECB has warned it would act to avoid such second round inflation effects.
"The ECB will remain worried that the longer headline inflation stays above 3 percent the greater the risk will be that this will feed through to have second round effects," said Howard Archer, economist at Global Insight. "The ECB fears that higher inflation expectations and a tighter labour market could result in significantly increased wage settlements this year," Archer said.
Data last week showed eurozone unemployment at a record low of 7.1 percent as trade unions in the eurozone's biggest economy German are negotiating wage deals. "Looking forward we believe that inflation could still edge higher in the coming months to 3.3 percent," said Sunil Kapadia European Economist UBS.
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