Rate cut pressure grows as euro slides on deflation fears

THE EURO slumped to its weakest level against both the dollar and the pound yesterday on news of a further fall in European inflation.

Prices in the 11 eurozone countries rose by an annual rate of just 0.8 per cent in December, with inflation in some core economies close to zero, according to data from Eurostat. Economists said there was now a real risk of deflation - or falling prices - on the Continent.

After falling steadily against the major currencies over the past week, the euro fell to new lows of $1.13 and 69.09p.

The figures coincided with renewed pressure from Europe's politicians for further cuts in interest rates ahead of next week's meeting of the European Central Bank.

Speaking at the World Economic Forum in Davos, Heiner Flassbeck, Germany's deputy finance minister, said: "For the first time in the last 50 years we are facing a slowdown in the industrialised world where we are quite close to zero with the price level. We are facing some kind of deflationary danger about which we have to think."

Mr Flassbeck argued that cuts in interest rates were the best way to tackle the deflationary threat.

Neil Parker, treasury economist at Royal Bank of Scotland, said: "There are building expectations of a rate cut from the European Central Bank."

The recent weakness in the new European currency has surprised the City, where it was widely believed that the euro would prove stronger than sterling. Analysts said growing signs of slowing activity in the eurozone countries, particularly Germany, lay behind the fall in the value of euro.

Yesterday's data confirmed that inflationary pressures on the Continent were virtually non-existent. The 0.8 per cent rate for the eurozone economies was well below the 2 per cent ceiling set by the ECB.

Inflation in Germany is now running at 0.4 per cent - also a record low - while inflation in France is even lower, at just 0.3 per cent.

The majority of economists expect the ECB to react to the deflationary threat by cutting interest rates again in the first quarter of 1999.

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