Eurozone to Cut Rates Further?

On Wednesday, inflation in the eurozone was reported to have eased. The annual inflation rate in the 17-member currency block dropped from a rate of 3.0% in November down to 2.8% in December. Given the pullback in the rate of inflation, investors may come to anticipate that further easing on the part of the European Central Bank may be coming soon. During the ECB's last policy meeting, the bank opted to cut the interest rate in the eurozone by 25 basis points, dropping it from 1.25% to 1%. The ECB had raised interest rates in the spring of 2011. That move has been widely criticized in retrospect, given the events of the previous few months. If the ECB cuts rates further, it may be able to slow the implosion of the eurozone and kick the can down the road once more. Recently, the People's Bank of China has opted to lower reserve requirements in a move to support further easing in the Chinese economy. The PBOC undertook this shift in policy after inflation in China showed signs of slowing. The PBOC had been working to aggressively tighten in recent months, as inflation in China appeared to be rapidly spiraling out of control. With inflation slowing, the ECB may follow the PBOC's lead. Of course, if the ECB is too aggressive, inflation could become an issue in the eurozone. Early Wednesday, the euro dropped against the US dollar. The EUR/USD traded back below $1.30—a significant level in recent weeks. A weaker euro could mean more inflation in Europe, as the cheaper currency is not able to purchase as many goods. At the same time, recent inflation data may be lagging—with oil prices on the move once again; inflation could rear its head in coming weeks. Oil prices and other commodities rallied in the first half of 2011 before pulling back. Yet, issues between the West and Iran may have sent oil higher, as traders may have begun to price in a possible escalation and conflict with the country. At the same time, growth has appeared strong in Germany. Unemployment was reported at its lowest rate in the country since reunification on Tuesday. Germany may be benefitting from weakness in the euro, as its exports become more attractive to foreign consumers when priced in the cheaper euro currency. Thus, further rate cuts could lead inflation to spiral out of control in Germany—a force that could have a very damaging effect on the German economy. At any rate, the euro may not survive if the ECB leaves rates too high. If the ECB cuts rates later this month, it may actually cause the euro to strengthen, as investors regain confidence that the currency will persist in the face of challenges to the eurozone. Neither Benzinga nor its staff recommend that you buy, sell, or hold any security. We do not offer investment advice, personalized or otherwise. Benzinga recommends that you conduct your own due diligence and consult a certified financial professional for personalized advice about your financial situation.