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Euro zone Inflation fell to a three-year low of 2.2% in August, according to preliminary data from Eurostat, raising expectations for a rate cut by the European Central bank in September. The drop from July’s 2.6% was in line with economists’ forecasts. Core Inflation, which excludes energy, food, alcohol, and tobacco, also decreased to 2.8% in August from 2.9% in July. The euro weakened against the pound and edged higher against the dollar following the release, as investors anticipated a rate cut from the Federal Reserve in September. German Inflation also cooled more than expected to 2% in August, on a euro zone harmonized basis.

ING economists anticipate that core Inflation in the euro zone will remain above 2.5% for the rest of the year due to persistent price pressures in goods and services. Market expectations are fully pricing in a 25 basis point rate cut by the ECB in September, with another cut expected before the end of the year. Kyle Chapman, a foreign exchange markets analyst at Ballinger Group, pointed out concerns in the data, particularly with services Inflation at 4.2%. He noted that while energy prices drove the positive headline figure, underlying pressures showed little improvement, especially with services Inflation remaining stubbornly high.

Looking ahead, Ed Smith, co-chief investment officer at Rathbones Asset management, highlighted ECB President Christine Lagarde’s focus on wage Inflation, indicating further rate cuts could be on the horizon. He mentioned a decline in negotiated wages in the euro zone in the second quarter and other indicators pointing to decreasing wage intentions. However, there are signs of price stickiness in the latest purchasing managers’ index numbers, particularly in the service sector, which may influence the cautious approach of some ECB policymakers.

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