ECB to hike rates as Mideast war pushes up inflation

FRANKFURT  

The European Central Bank is expected to hike interest rates this week for the first time in two and a half years as the Iran war energy shock stokes inflation.

The ECB has kept borrowing costs on hold for some time as eurozone price rises had been largely under control.

But the U.S.-Israeli war against Iran and near total closure of the Strait of Hormuz has sharply pushed up global energy costs, feeding into higher inflation.

Consumer price rises in the 21 countries that use the euro accelerated to 3.2 percent in May, above the ECB's two-percent target.

Analysts expect the central bank's governing council to deliver a quarter percentage point increase to the key deposit rate, taking it from 2.00 to 2.25 percent, when it meets on June 11.

"Anything but a rate hike at the ECB meeting would be a big surprise," said ING economist Carsten Brzeski.

Other major central banks, including the U.S. Federal Reserve and the Bank of England, have so far kept rates on hold as they assess the fallout from the conflict.

The ECB’s move on June 11 would mark the first time the Frankfurt-based institution has increased rates since September 2023, as it battled a historic surge in inflation unleashed by Russia's invasion of Ukraine.

Following that, the central bank delivered a series of cuts as inflation eased, but has held rates steady since June last year.

But some economists have criticised the expected hike as it could constrict growth further in the sluggish eurozone by making it more costly for households and businesses to borrow.

This comes with the war already adding to headwinds as the single currency area is heavily dependent on energy imports.

The European Union last month slashed its growth forecast for the eurozone to 0.9 percent for 2026, down from a previous prediction of 1.2 percent.

Revised data released on June 5 showed the eurozone economy contracted 0.2 percent in the first quarter.

Chief economist at Allianz, Ludovic Subran, told AFP that raising borrowing costs would be a bid to "provide reassurance" that the ECB was keeping an eye on higher inflation.

But he added: "This hike is not necessary; the ECB could wait, especially since the slowdown in growth is clear."

ECB officials may however be nervous about waiting too long to act, especially after facing criticism for moving too slowly to tame the inflation surge in 2022.

Most analysts stress the economic backdrop now is different to that in 2022; inflation was already elevated before the outbreak of the Ukraine war, and the global economy was struggling with post-pandemic supply chain woes.

Given that, they don't expect the bank’s move this week to herald the start of an aggressive rate-hiking cycle.