ECB sees inflation target achieved: But new challenges loom

The European Central Bank (ECB) can celebrate a remarkable success: for the second consecutive time, inflation in the Eurozone is close to the targeted 2-percent goal. After years of challenging inflationary pressure, the effects of which are still felt as cost increases in Europe, the ECB perceives this development as a positive milestone. Surprisingly, the ECB demonstrates better performance than the U.S. Federal Reserve. In the United States, inflation remains consistently slightly above the target, fluctuating between 2.4 and 2.6 percent. The United Kingdom is joining the Eurozone, with its inflation rate also at the target level. Despite the celebrations, European authorities should not pop the champagne too early. While the overall inflation levels within the Eurozone may be low, regional disparities are emerging that give cause for concern. Particularly noteworthy are the current data: countries like Belgium, Bulgaria, and Croatia show inflation rates of 4.5 and 3.6 percent, respectively, while Ireland, Lithuania, and Slovenia are balancing on the edge of deflation, with rates of 0.1 percent or even 0 percent. Such divergence could threaten the stability of the common currency. The unification of interest rate policy becomes more complex, as it is based on uniform inflation rates. Different national inflation rates make it challenging to determine the optimal interest rate. Moreover, the divergence also has real impacts on competitiveness. Rising inflation in one country reduces its competitiveness compared to another country with lower inflation, as price and wage increases occur more rapidly. Normally, such a difference would be balanced by exchange rate adjustments. However, in the Eurozone, this mechanism is not present because of a unified currency. This issue was already observed in the lead-up to the Eurozone debt crisis in 2011, when countries with higher inflation rates lost competitiveness.