The European Central Bank announced on Thursday a 25-basis-point interest rate hike—the first since September 2023. The Governing Council stated that, with the ongoing Middle East conflict continuing to exert inflationary pressures, waiting for hostilities to subside before acting is no longer a viable option. Economists and investors widely expect the ECB to raise rates by another 25 basis points in September, extending the current tightening cycle.
The European Central Bank (ECB) announced on Thursday a 25-basis-point interest rate hike—the first since September 2023. The Governing Council stated that, as the ongoing war in the Middle East continues to exert inflationary pressure, waiting for hostilities to subside before acting is no longer a viable option.
In its statement, the Governing Council noted that the decision to raise rates remains robust across a range of scenarios assessing how the shock might evolve. The latest Eurosystem staff projections revised upward the headline inflation forecast for 2026 to 3.0%, while downgrading growth forecasts for both 2026 and 2027, reflecting a greater-than-expected impact from the war on commodity markets, real incomes, and market confidence.
The rate hike aligned with market expectations. Economists and investors widely anticipated that the ECB would raise rates by another 25 basis points in September, continuing the current tightening cycle.
The ECB emphasized that the Governing Council will closely monitor developments and continue to determine the appropriate policy stance based on a data-dependent, meeting-by-meeting approach, without pre-committing to any specific interest rate path.
First rate hike in nearly three years, driven by energy shocks
The ECB announced a 25-basis-point increase across all three key interest rates, specifically:
The deposit facility rate was raised to 2.25%, the main refinancing operations rate to 2.40%, and the marginal lending facility rate to 2.65%. These adjustments take effect on June 17, 2026.
The Governing Council stated that the rate hike aims to ensure inflation returns durably to the 2% target over the medium term. The wording of the statement clearly indicated that the Committee considers waiting for clarity on the Middle East situation no longer feasible—underscoring the certainty of its decision, which holds across multiple scenarios of how the war-related shocks could unfold.
Higher inflation forecasts and lower growth projections reveal a policy dilemma
The latest Eurosystem staff projections show headline inflation averaging 3.0% in 2026, 2.3% in 2027, and returning to the 2.0% target by 2028.
Core inflation, excluding energy and food, is projected to average 2.5% in both 2026 and 2027, declining to 2.2% in 2028. Compared with the March forecasts, inflation expectations for 2026 and 2027 have been revised upward due to a higher assumed path for energy prices, which are expected to transmit partially to food, goods, and services inflation.
Meanwhile, the growth outlook faces downward revision pressures.
GDP growth is now forecast at just 0.8% in 2026, rising to 1.2% in 2027 and 1.5% in 2028—each below the March projections—primarily due to a more pronounced impact from the war on commodity markets, real incomes, and market confidence than previously anticipated.
This stagflationary profile—persistently elevated inflation alongside weakening growth—constitutes the core challenge facing the European Central Bank’s current policy decisions.
Heightened uncertainty persists, with policy instruments standing ready
The Governing Council of the European Central Bank acknowledges that uncertainty surrounding the outlook remains elevated, with upside risks to inflation and downside risks to economic growth.
The full impact of the war on medium-term inflation and growth will depend on the magnitude and duration of the energy price shock, as well as the scale of its indirect and second-round effects. Updated scenario analyses by Eurosystem staff indicate wide distributions for both inflation and growth; the results will be published alongside the forecast report on the ECB’s website.
On the policy instrument front, the Asset Purchase Programme (APP) and the Pandemic Emergency Purchase Programme (PEPP) continue to be wound down at a predictable pace, and the Eurosystem has ceased reinvesting the principal payments from maturing securities.
In addition, the Transmission Protection Instrument (TPI) remains on standby and can be deployed if necessary to counter disorderly market dynamics that threaten the transmission of monetary policy across euro area countries.
Editor/Liam