German inflation rises slower than expected, ECB decision looms

Inflation in Europe's largest economy has not turned the corner, but it climbed more slowly than the market feared.

Preliminary figures from the German Federal Statistical Office showed the harmonised index of consumer prices up 0.2% on the month, against forecasts of 0.3%, taking the annual rate to 2.9% from 2.8% in July.

It marks a third consecutive increase, after 2.4% in June, following an energy shock driven by the war in Iran and the expiry of Germany's fuel duty discount.

The harmonised index is compiled using a method common to every EU country, allowing direct comparison across member states, and it is the gauge the ECB uses to judge whether it is meeting its 2% target.

The figures land alongside releases last week that painted a mixed picture for Germany.

Second-quarter GDP was revised up to 0.3% growth from 0.2%, with Destatis president Ruth Brand noting that "the German economy is maintaining the momentum seen at the start of the year" and crediting exports as the main driver, with goods exports rising 2.6% on the quarter.

However, domestic demand was weaker as investment in machinery and equipment fell 1.4%, while household and government consumption each managed 0.1%. Employment kept shrinking, with roughly 45.7 million people in work, 212,000 fewer than a year earlier.

German growth also lagged the wider EU, which expanded 0.5% and public finances deteriorated sharply.

The government's deficit reached €71.3 billion in the first half of the year, €36.6 billion more than a year earlier and equivalent to 3.1% of GDP. The federal government accounted for €48.1 billion, with spending rising faster than revenue.

What the numbers mean for the ECB

For Frankfurt, the undershoot matters more than the direction.

The ECB raised its deposit rate to 2.25% in June, its first hike in nearly three years, then held in July. Whether it moves again next week has been the central question in eurozone markets since.

A German print above 3% would have strengthened the hawks considerably. Instead, the largest eurozone economy delivered inflation that is still rising and still well above the 2% target, but decelerating against expectations, alongside an economy expanding only modestly and shedding jobs.

Last Friday, Spain and France showed how uneven the picture remains.

The Spanish harmonised rate leapt to 4.5% in August from 3.9%, the highest in more than a year, after fuel prices rose in a month when they had fallen a year earlier.

Meanwhile, Spain's core inflation eased to 2.9%, suggesting energy and base effects rather than broad pressure, but the headline gap with Germany now exceeds 1.5%.

France recorded the mildest acceleration of the three, its harmonised rate rose to 2.7% from 2.4%, though energy there was 16.7%, up from 12.6% in July.

Ultimately, that is the ECB's main challenge, setting one interest rate for economies whose inflation rates are pulling apart.

Eurozone-wide figures follow on Tuesday, and the ECB announces its interest rate decision next Thursday.