The European Central Bank raised interest rates for the first time after three years. The deposit rate was lifted to 2.25% from 2%. The hike is the first policy response by a major central bank to the spike in oil prices triggered by the conflict in the Middle East. However, the President, Christine Lagarde, struck a hawkish tone and warned that inflation triggered by the war in Iran is spreading beyond just energy. Euro area inflation topped 3% for the first time in more than 2.5 years. Consumer prices rose 3.2% from a year ago in May, while core inflation surged to 2.5%. The immediate market reaction to the decision was muted. The two-year swap rate (a gauge of near-term policy expectations) rose 2 basis points to 2.88%, and the euro was unchanged against the dollar at $1.1530. The decision comes as new forecasts from the ECB’s staff economists suggest they now see the latest energy shock as having a more persistent impact on inflation than they anticipated in March. Headline inflation is projected to average 3.0% in 2026, then slow to 2.3% in 2027 and return to the ECB’s 2% target in 2028. The ECB’s hawkish stance was also reflected in its view of the growth prospects. Lagarde highlighted euro-area GDP excluding Ireland (a common measure that removes distortions from multinational activity) to show that the region’s growth has been driven by both exports and domestic demand. Regarding the future, the ECB continues to base its decisions on data, adopting a meeting-by-meeting approach and avoiding any precommitment to a specific rate path. The market is pricing in a 73% chance of a quarter-point move in September.
ECB Hikes for First Time in Three Years as Inflation Pressures Broaden – Comments from Century Financial
