Key facts
- The European Central Bank raised interest rates by 0.25% to 2.25% on Thursday.
- This marks the first rate hike by the ECB since September 2023.
- The decision aims to combat inflation, which rose to 3.2% in May, driven by energy price shocks from the Iran war.
- ECB President Christine Lagarde stated that higher borrowing costs risk amplifying economic damage from the war-driven energy shock.
- The ECB's move positions it as the most hawkish among major central banks, with the Bank of Canada holding rates steady and the Federal Reserve and Bank of England expected to do the same.
The European Central Bank raised its key interest rates on Thursday for the first time in nearly three years, a move driven by persistent inflation exacerbated by the ongoing conflict in the Middle East. The ECB lifted its deposit facility rate by 0.25 percentage points to 2.25%, reversing its easing cycle in response to a jump in May inflation to 3.2%.
Policymakers cited concerns that rising oil and gas prices, stemming from the Iran war, risk spilling into the broader economy and pushing inflation further above the ECB's 2% target. ECB President Christine Lagarde acknowledged the uncertainty, noting upside risks for inflation and downside risks for economic growth, with the conflict's impact dependent on its duration and potential second-round effects.
While some analysts viewed the hike as an 'insurance policy' to bolster inflation-fighting credentials, Lagarde pushed back, arguing that inaction would lead to inflation exceeding the target. The decision positions the ECB as the most hawkish among major central banks, with the Bank of Canada holding steady and the U.S. Federal Reserve and Bank of England expected to maintain their current rates.
Economists like Ifo President Clemens Fuest and ZEW economist Friedrich Heinemann praised the ECB's commitment to price stability. However, others, such as Berenberg Chief Economist Holger Schmieding, warned that further tightening could lead the eurozone into an unnecessary recession, drawing parallels to the ECB's ill-fated rate hikes in 2011. Lagarde dismissed these recession fears, pointing to updated growth forecasts predicting expansion for the eurozone.