Eurozone Inflation Hits ECB’s 2% Target as Rate Cut Speculation Mounts
December consumer price growth meets central bank objective after years of elevated inflation, but policymakers remain cautious about declaring victory amid persistent services price pressures
Eurozone inflation fell to 2.0% in December, meeting the European Central Bank’s price stability target for the first time since the sharp surge in prices that defined 2022 and 2023, according to flash estimates published by Eurostat on Wednesday. The decline from November’s 2.1% reading marks a significant milestone in the region’s battle against inflation and reinforces expectations that the worst of the price shock has passed, though central bankers remain wary of declaring premature victory given ongoing risks from wage dynamics, energy markets, and uneven demand across member states.
Core inflation—which excludes volatile food and energy components and serves as a key indicator for policymakers—fell to 2.3% year-on-year from 2.4% in November, reaching its lowest level since August. On a monthly basis, consumer prices rose 0.2% in December, rebounding from a 0.3% decline the previous month. The data suggests that headline and core inflation are now moving within a relatively narrow range, indicating that the extreme volatility of recent years may be subsiding even as structural risks persist.
ECB Rates to Remain Steady Through 2026
Financial markets responded cautiously to the inflation data, with the euro and Stoxx 600 index unchanged following the release. Market odds of a rate cut during 2026 stand at 45%, while a rate hike is seen as unlikely at just 11%, suggesting investors expect the ECB to maintain its current policy stance through most of the coming year. German Bund yields fell five basis points to 2.78%, reflecting confidence that inflation remains under control and that the central bank will hold borrowing costs steady unless economic conditions deteriorate significantly.
The ECB has maintained its key deposit facility rate at 2.00% for four consecutive meetings following an aggressive rate-cutting cycle that began in June 2024. Over the course of 18 months, the central bank delivered eight rate cuts, lowering the deposit rate from a peak of 4.00% to the current 2.00% level in response to moderating inflation and sluggish economic growth. The pause in rate adjustments since June 2025 reflects policymakers’ assessment that borrowing costs have reached an appropriate level to support the economy while ensuring inflation stabilizes at target.
ECB staff projections released in December show headline inflation averaging 2.1% in 2025, declining to 1.9% in 2026 and 1.8% in 2027, before returning to the 2.0% target in 2028. For core inflation, staff forecast an average of 2.4% in 2025, 2.2% in 2026, 1.9% in 2027, and 2.0% in 2028. Inflation has been revised upward for 2026 compared to September projections, primarily because services inflation is expected to decline more slowly than previously anticipated.
Services Inflation Remains Stubborn
Services inflation continues to pose the primary challenge for policymakers, contributing approximately 3.4% to annual price growth in December—down only marginally from 3.5% in November. This persistent pressure reflects tight labor markets and elevated wage growth that continues to feed through to consumer-facing services prices. Compensation per employee rose at an annual rate of 4.0% in the third quarter, exceeding ECB staff expectations, though forward-looking indicators suggest wage growth will ease toward 3% by late 2026.
Energy prices fell 1.9% year-on-year in December, compared to a 0.5% decline in November, providing downward pressure on headline inflation. Food, alcohol, and tobacco prices rose 2.6%—the highest rate since September—while non-energy industrial goods prices increased 0.4%. The divergence between energy deflation and persistent services inflation highlights the uneven nature of the disinflation process and underscores why the ECB remains cautious despite achieving its headline target.
Divergent Views on Future Policy
Market commentary following the inflation release reflects divided opinion on the ECB’s next move. Michael Field, chief equity strategist at Morningstar, suggested the data gives the ECB justification for further rate cuts in 2026, noting that achieving the 2% target should please equity markets and provide additional policy flexibility. However, he acknowledged that inflation has hovered around target for most of 2025, making the December reading more of a confirmation than a breakthrough.
ECB executive board member Isabel Schnabel warned in recent public comments that inflation risks have shifted to the upside as the eurozone economy gains momentum and governments ramp up fiscal spending on military and infrastructure. Her assessment reflects concern that demographic labor pressures and rising inflation expectations could complicate the disinflation trajectory, particularly if economic growth accelerates beyond current forecasts.
Economists at DWS and ING maintain that the deposit rate will remain unchanged at 2.0% throughout 2026, viewing current policy as appropriately calibrated to support economic growth while anchoring inflation expectations. Goldman Sachs Asset Management concurs, noting that while scope exists for additional easing if inflation falls well below 2%, such a scenario appears increasingly unlikely given subdued but stable price pressures. Conversely, the probability of a rate hike in 2026 appears very low given the inflation backdrop, despite hawkish rhetoric from some committee members.
Regional Variations and Growth Outlook
Inflation dynamics vary significantly across major eurozone economies, reflecting divergent economic conditions and policy responses. German inflation stood at 2.0% in December, falling sharply from November’s 2.6% and reaching its lowest level since July 2025. French inflation declined to 0.7% year-on-year, while Italy and Spain posted annual rates of 1.2% and 3.0%, down from 1.1% and 3.2% respectively in November. Dutch inflation eased to 2.5% from 2.6%, demonstrating the uneven nature of price pressures across the monetary union.
Economic growth projections have been revised upward for 2026, with staff now expecting GDP expansion of 1.2%—up from 1.0% in earlier forecasts—driven primarily by stronger domestic demand. Growth is projected to accelerate to 1.4% in 2027 and remain at that level through 2028, though significant uncertainty surrounds these estimates given evolving fiscal policies, particularly in Germany, and potential spillovers from global trade tensions.
The successful return of inflation to target represents a major achievement for ECB policymakers after three years of battling price pressures that at their peak reached 10.6% in October 2022. However, the central bank’s cautious stance reflects awareness that maintaining price stability requires continued vigilance, particularly as structural factors including aging demographics, energy transition costs, and geopolitical tensions continue to pose risks to the inflation outlook.
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