Euro Area September inflation declines

Euro area September advance inflation fell -0.1% YoY, a first since Mar15 and from downwardly revised 0.1% YoY in Aug. Core inflation (ex food and fuel) rose 0.9%, steady from month before. Weak numbers from the core economies set the stage for soft zone aggregate reading. Spain's inflation fell -1.2% YoY more than expectations, alongside -0.2% in Germany, in red after an eight-month hiatus. 

"We had flagged the risk that headline inflation might slip into red anew as global energy prices held near lows and euro rebounded", notes DBS Group Research.

While other components were steady to slightly firmer in Sep, the energy prices index was a key drag. Latter fell -8.9% YoY from Jan-Aug average of -6.5%. Over the past year, impact of a collapse in commodity prices has been partly offset by pick-up in food, non-energy goods and service sector pressures. Goods price inflation continues to remain in red, but is negated by stable service price indices, keeping headline inflation barely above water.

In so far as commodity prices are the main drag on inflation and demand-led forces have relatively stabilized, the authorities need not be perturbed with this patch of disinflation. However, given the still nascent recovery in aggregate demand, overhang of a high unemployment rate, slow wage growth and signs of economic slack, policymakers will be keen to avert deflationary risks. Aug unemployment rate steadied at 11%, unchanged from revised 11% month before. 

In so far as inflation stays below ECB's target of 2%, markets will continue to price in an increase in the ECB's asset purchase program next. The central bank also fed these expectations by highlighting that the current QE program provides sufficient flexibility in terms of fine-tuning the size, consumption and duration of these purchases. Expect more such dovish rhetoric to follow in the weeks ahead.