ECB Raises Deposit Rate To 2.50% Amid Inflation Fears

(RTTNews) - The European Central Bank raised interest rates on Thursday, as expected, prompted by the fears of an inflation shock as energy prices surge amid the recent escalation of the Iran war.

The ECB Governing Council, led by President Christine Lagarde, hiked by the benchmark - the deposit rate by 25 basis points to 2.50 percent. The main refinancing rate was raised by a similar size to 2.65 percent, and the lending rate was lifted to 2.90 percent.

In June, the central bank raised interest rates for the first time since 2023.

Following that, the bank left rates unchanged in the previous policy session in July as policymakers adopted a wait-and-watch mode. However, the recent intensification of tensions in the Middle East has propelled the crude oil price to above $100 sparking concerns of an energy price shock as supply disruptions are likely amid the war. The ECB staff released the latest round of macroeconomic projections, and they raised the inflation forecasts for next year and 2028.

Headline inflation is expected to average 3.00 percent this year and 2.50 percent next year. The figure is seen easing to 2.10 percent in 2028.

Core inflation, which excludes prices of energy and fresh food, is projected to average 2.50 percent this year, 2.60 percent next year and 2.30 percent in 2028. All the forecasted rates are above the ECB's inflation target of 2.0 percent.

The bank forecast Eurozone economic growth at 0.90 percent this year, 1.40 percent next year and 1.50 percent in the year after. The growth projections for this year and next were upgraded to mainly reflect the greater than expected resilience of the euro area economy, the ECB said.

The ECB observed that the conflict in the Middle East continues to generate inflation pressures, and that euro area inflation is set to remain well above target for an extended period.

"Today's decision underscores the Governing Council's commitment to setting monetary policy to ensure that inflation stabilizes at its 2 percent target in the medium term," the bank said.

"The outlook remains highly uncertain, with risks to the upside for inflation and to the downside for economic growth," the bank said.

"With today's decision, the Governing Council remains well positioned to navigate the uncertainty caused by the conflict," the ECB said.

The central bank affirmed that it would follow a data-dependent and meeting-by-meeting approach to determining the appropriate policy stance. The Governing Council is not pre-committing to a particular rate path, the bank reiterated.

ING economist Carsten Brzeski described the latest raise in interest rates as "an insurance hike". "In light of higher actual and projected headline inflation, bringing the policy rate to the upper end of the range that the ECB itself calls 'neutral' did not pose any risk of being too activist or too restrictive," the economist said.

If the bank had chosen to do nothing this month, it would have affected its credibility, the economist observed. That said, the future paints a very different and a much more complicated picture, Brzeski said.

"Going further would mean that the ECB sees restrictive monetary policy as necessary," Brzeski said.

"We still find it hard to see - amid public finance woes and surging bond yields - that the ECB would really be willing to add more fuel to the fire…it's difficult to envisage the ECB being willing to risk a recession to tackle what is still a textbook supply-side shock," the economist added.

Other major central banks are also expected to raise interest rates soon as inflationary pressures caused by the energy price surge triggered by the intensification of the Middle East conflict start to hurt the real economy.