Euro-area inflation rises to 3.8% in September, above forecasts

Eurostat said on Friday that euro-area inflation rose to 3.8% in September, from 3.2% in August. That was above the 3.6% economists in a Reuters poll had expected, and above the European Central Bank's 2% target.

Fuel and natural gas drove the rise, with the conflict in the Middle East still pushing energy prices up. Energy inflation rose to 18.8% from 14.3% in August.

Energy is about 9% of the price basket. That share accounts for about 0.4 percentage points of the rise from 3.2% to 3.8%. Eurostat's own split of what each category contributed is due on Friday, October 16.

Core inflation, the measure that leaves out energy, food, alcohol and tobacco, rose to 2.5% from 2.4%, matching forecasts. Services rose to 3.2% from 3.0% in August, still short of July's 3.3%.

Earlier in the week the largest economies had all reported higher inflation than in August, on the measure used to compare euro-area countries. Germany was at 3.3%, France at 3.4%, Italy at 4.1% and Spain at 5.0%.

Markets are not pricing an October increase

On Thursday, September 10, the Governing Council raised the deposit rate, the rate banks earn on overnight deposits, by a quarter of a percentage point to 2.50%. It was the second increase of that size this year.

It said the conflict in the Middle East continues to generate inflation pressures, and that inflation is set to remain well above target for an extended period.

Staff projections released that day see inflation averaging 3.0% this year, 2.5% in 2027 and 2.1% in 2028. They already had the rate peaking late this year, as the conflict lifted energy prices, and then easing.

On Monday, President Christine Lagarde told a European Parliament committee in Brussels that long-term interest rates have risen notably since the last meeting. That rise, she said, will slow growth and limit how far energy costs spread into other prices, by more than the September forecasts assumed. The shock is too large to ignore, she said, but a measured response is still right, because she sees no sign yet that higher energy prices are feeding into wages.

Harry Woolman, global capital markets analyst at Validus Risk Management, said energy is still the main driver, but September's jump is now "more than an energy story."

Friday's reading, he said, makes Lagarde's case on bond yields "harder to sustain."

Michael Field, chief European markets strategist at Morningstar, said the September increase "won't be the last of its kind," and that the bank may need to keep raising rates to bring inflation back toward the target.

Jack Allen-Reynolds of Capital Economics read the same core figure the other way. September's data, he said, do not change the view that the bank is most likely to wait until December. An October increase would not be a big surprise, he added, if energy prices rise further in the next few weeks.

The Governing Council meets in Frankfurt on Wednesday, October 28, and announces its decision on Thursday, October 29.

On Tuesday, before Friday's figure, Prime Terminal data showed a 57% chance the bank would leave rates unchanged at that meeting. On Friday, derivatives markets implied an 11.7% chance of a quarter-point rise this month.

December carried a near 70% chance, and the next increase was not fully priced until January.