German inflation falls back below ECB target in January

BERLIN (Reuters) - German inflation slowed in January, data showed on Thursday, as retailers cut prices after Christmas and the euro strengthened, flagging up a possible future policy shift at the European Central Bank.

The Statistics Office data showed inflation eased to 1.7 percent on the year in January, falling back below the ECB's target of just under 2 percent for the euro zone as a whole.

Annual inflation now stands at its lowest level since July last year despite an increase in energy prices. Thursday's reading was below a Reuters consensus forecast for an acceleration to 2.0 percent and compared with a 2.1 percent annual increase in the cost of living in December.

The office said increases in the cost of living slowed after the German government decided to scrap from January 1 a 10 euro fee paid to doctors and dentists for a first visit in every quarter.

Some analysts said the exchange rate had contributed to the easing in price pressures.

"It seems pretty clear to me that the exchange rate or the euro appreciation has had an impact on German inflation via import prices and of course the ECB could try and do something about that," said Christian Schulz at Berenberg Bank.

"If Germany has been impacted by lower import price inflation it's likely that the euro zone data which we get tomorrow is also impacted by that, which poses a downside risk to the ECB's inflation risk and the ECB may next week try and sound a little more dovish."

The euro has gained broadly this month as easing euro zone debt worries have prompted investors to reinvest in the region after shunning it for much of last year due to concerns about the risk of the bloc breaking up.

Germany's inflation rate held above 2 percent for much of 2012 as its economy steamed ahead of its peers in the single currency bloc and workers secured high pay rises, with IG Metall securing its highest raise in 20 years.

That posed a dilemma for the ECB, which struggled to balance monetary policy for Europe's economic powerhouse with the needs of struggling states such as Greece, Italy and Spain.

The ECB left interest rates at a record low of 0.75 percent in January and is expected to do so in February too.

"I don't see that this drop in inflation would encourage the ECB to lower rates again but if this trend were to continue then it might open up the door for a rate cut again," said Carsten Brzeski, senior economist at ING Bank.

Brzeski attributed Thursday's lower figure mainly to seasonal discounts on holidays and items such as clothing as well as to the scrapping of the doctors' fee.

(Reporting by Michelle Martin, editing by Gareth Jones and John Stonestreet)