German Inflation Sinks in March, Teeing Up ECB Rate Cut2nd Update

By Ed Frankl

German inflation declined notably in March, laying the groundwork for a rate cut from the European Central Bank, despite fears that U.S. tariffs and extra defense spending could lead to an inflationary rebound.

Consumer prices were 2.3% higher in March than the same month of 2024, down from 2.6% in February, German statistics agency Destatis said Monday, using European Union-harmonized figures.

That was a little cooler than expectations of 2.4% from economists polled by The Wall Street Journal.

Investors anticipate the ECB to cut its key interest rate on April 17 as the rate of inflation in the eurozone--data for which is due Tuesday--heads toward the ECB's 2% target. But policymakers have in recent days been paring back those expectations as they weigh the potential inflationary effect of tariffs and future German defense spending.

ECB President Christine Lagarde told French radio station France Inter on Monday that the battle against inflation is still being fought.

"We're almost where we want to be, but we have to stay there," she said.

The ECB estimates that 25% tariffs on goods imports into the U.S., alongside retaliation by the European Union, could add 0.5 percentage points to the level of inflation. Increased government spending on defense and upgrading infrastructure in Germany could also provide upward pressure.

However, despite much of the decline in March inflation being driven by falling energy prices, underlying inflation continues to trend down too. Core inflation--which excludes more volatile food and energy prices--declined to 2.5% from 2.7% in February, based on non-harmonized national data. Services inflation fell to 3.4% from 3.8%.

Fears over the health of the eurozone economy could also ease ECB policymaker makers' ability to cut rates. The central bank forecasts eurozone economic growth of just 0.2% in the first quarter of 2025, and expects U.S. tariffs to slice 0.3 percentage points off eurozone GDP growth in the first year, or more should the EU retaliate.

Indeed, despite potential fears of longer-term inflationary risks, accelerating short-term disinflationary trends could motivate the ECB to bring rates lower, ING economist Carsten Brzeski said in a note to clients.

"In short, it looks as if the longer-term outlook for the eurozone has improved, while the shorter-term outlook looks darker again. It's not easy to conduct monetary policy in such a macro environment," he said.

Write to Ed Frankl at edward.frankl@wsj.com