Highest German Inflation In 70 Years To Prompt Higher Than Expected Hike In Euro Borrowing Costs

Germany, the heart of the European economy, just registered consumer price inflation at 7.9%, the highest level since 1952, the year Britain’s Queen took the throne.

The inflationary jump of 0.5% from the previously reading, was primarily down to surging energy and food cost increases, according to a recent report from Capital Economics. But that will likely lead the way to far higher borrowing costs for euro borrowers also.

The worst part of the inflation news is that things likely won’t right themselves anytime soon, according to a recent report from Capital Economics. The report states the following:

• There is no reason to expect core inflation to fall significantly in the near future. Both the price components of Germany’s Composite PMI [purchasing managers index] were at very high levels in May […] Our forecast is for core inflation to remain above 2% throughout this year and next. [Capital’s emphasis.]

Given Germany’s history of hyperinflation a century ago, it would seem likely that the European Central Bank — Europe’s equivalent of the Federal Reserve — will want to act decisively to crush inflation and bring it back within the annual 2% target zone.

And Germany isn’t the only major European economy suffering from surging inflation. Spain’s inflation rate stands at 8.5%, according to the Capital report.

Together those two should support the idea that the ECB needs to get busy with the inflation fighting. Something which now looks more likely, according to Capital Economics:

• ECB Chief Economist Philip Lane asserted today that 25bp rate hikes were the “benchmark pace” of policy tightening and implied that the hawks would have to put a very strong case to justify more rapid pace of normalisation. These data will bolster that case. We still think a 50bp rate hike in July is both justified and likely.

Put another way, the cost of borrowing euros will likely increase by twice as much as was previously expected; by half a percentage point rather than a quarter point.