The European Central Bank (ECB) is considering interest rate hikes as inflation in the Eurozone surges, a situation exacerbated by the ongoing conflict in Iran. ECB President Christine Lagarde indicated that even a temporary spike in inflation could warrant policy adjustments, signaling a shift from previous expectations of rate cuts.
ECB President Christine Lagarde stated that the central bank stands ready to adjust policy if inflation overshoots the 2% target, even if the surge is deemed “not-too-persistent.” This stance comes after the ECB upgraded its inflation forecasts, now expecting headline inflation to average 2.6% in 2026, potentially peaking at 4% in an adverse scenario or even above 6% in a severe scenario due to the Iran conflict. The disruption to oil and gas supplies following the conflict has sent energy prices soaring, directly impacting European inflation.
ECB Chief Economist Philip Lane highlighted that companies’ price-hike expectations and wage settlements for new hires are crucial indicators the bank will be watching. Signs of price increases beyond the energy sector and rising wages could suggest that higher inflation is becoming entrenched. The conflict has already impacted business confidence, with Eurozone private sector output falling to a 10-month low in March.
ECB policymaker Joachim Nagel indicated that an interest rate hike in April is a “possible option” if the Middle East conflict continues to fuel inflation risks. He noted that sufficient data would be available by the April 29-30 meeting to make a decision. Financial markets are anticipating two to three rate increases by the end of the year, pushing the policy rate to between 2.50% and 2.75%.
The conflict’s impact extends beyond inflation, with warnings of potential energy shortages and fuel rationing in Europe as early as April if the Strait of Hormuz remains closed. This situation is putting pressure on businesses and consumers, with German business confidence already showing a sharp decline in March.