Rising oil and food prices push inflation in eurozone to record high

Inflation in the eurozone has climbed to 4.1 per cent, an all-time high for the single currency area, according to official preliminary estimates for the year to July. It stood at 4 per cent in June.

At more than twice the official inflation target rate of 2 per cent, the news was accompanied by an announcement that unemployment remains high across the bloc, although the rate is stable, at 7.3 per cent for June, with a revisions upwards of the figure for May.

Soaring food and oil prices are largely to blame for the poor inflation performance. So far, so-called "second-round" effects have been muted, though there are signs that wage inflation is picking up, due to indexation mechanisms in some eurozone countries and the comparatively strong German labour market. Labour cost inflation in the eurozone has advanced from a 2.6 per cent average in 2007 to 3.3 per cent in the first quarter of 2008.

The European Central Bank (ECB) governing council member Nout Wellink sounded a hawkish note on inflation and the next movement in European interest rates, which will be set next Thursday. "Our first priority is to curb inflation," he said. "You can wonder whether a slowing economy will draw down inflation by itself. But the point is that we must prevent inflation expectations changing. We must make clear that we are guarding against expectations rising, because if they do so, then they will be factored into wages and prices."

The ECB raised rates last month by a quarter percentage point to 4.25 per cent, their highest level in nearly seven years. Despite Mr Wellink's remarks, most analysts believe that rates will be held until 2009.

The task of setting a single interest rate across a 15-nation community is being made difficult by the marked divergences among economies. Among the major players, inflation varies from just over 2 per cent in the Netherlands to almost 6 per cent in Belgium. The German unemployment rate fell again in June, to 7.3 per cent, while a rapid slowdown in the Spanish economy has seen its jobless rate hit a four-year high of 10.7 per cent. But most concern focuses on Italy. Now its labour rates have risen markedly faster than most other nations in the zone, it has seen growth collapse to an annual rate of 0.2 per cent, though unemployment is comparatively low. Structural difficulties such as a rapidly ageing population add to the strains.

A recent report from Capital Economics said: "An ugly combination of weak GDP growth, poor international competitiveness, and rising government borrowing costs could lead to renewed calls for Italy to leave the euro... as things stand, not only will Italy lose ground to the rest of the eurozone, it should soon start to do so at an even more rapid rate."