The European Central Bank is widely expected to raise interest rates Thursday as policymakers confront mounting inflation fueled by surging energy costs.
Unlike the Federal Reserve, the ECB operates under a single mandate, keeping inflation close to its 2% target, and recent data shows pressure building on both headline and core readings.
Headline euro zone inflation climbed to 3.2% in April, with energy prices surging 10.9% year-on-year, raising alarm among policymakers and market watchers alike.
The euro zone is a major energy importer, making the bloc especially vulnerable to the spike in oil prices sparked by the Iran war.
Core inflation also rose to 2.5% in April, driven primarily by higher services costs, which is raising fears about the emergence of second-round inflation effects.
Second-round effects occur when elevated energy costs begin feeding into broader price pressures across the economy, making inflation significantly harder to bring under control.
The ECB’s Governing Council is expected to hike its key deposit rate by 25 basis points to 2.25%, even as officials remain wary of tipping a sluggish euro zone economy into outright recession.
Markets are currently pricing in three rate hikes for the remainder of the year, reflecting expectations that the ECB will need to sustain its tightening campaign well beyond Thursday’s decision.
“Compared with March, we expect ECB staff to mark down the growth projections for 2026-27 and raise both headline and core inflation projections, reflecting a more persistent energy shock and stronger indirect effects into prices,” wrote Sven Jari Stehn, chief European economist at Goldman Sachs, in a recent note.
Stehn added that “our energy price index — the average of oil and gas — is up about 12% through the projection horizon since the March meeting,” underlining the scale of the challenge facing policymakers.
Anatoli Annenkov, senior European economist at Société Générale, noted that “the core inflation forecasts will be more interesting, especially for 2027,” pointing to what the projections might reveal about staff confidence in second-round effects.
Annenkov added that “this forecast will tell us a lot about the ECB staff’s confidence in coming second-round effects, especially taking into account the weakening activity data since March.”
Deutsche Bank Securities Director Mark Wall offered a measured view, stating “we expect the ECB to keep rates market pricing relatively unchanged,” and cautioning that “interpreting June as a one-off hike won’t suit the ECB.”
Investors and analysts will be watching ECB President Christine Lagarde’s post-decision press conference closely for any signals about the pace and scale of further tightening ahead.
