The European Central Bank raised its key rate to 2.25%, citing energy-driven inflation pressures from the Iran war and a weaker growth outlook.
The European Central Bank raised its key interest rate by a quarter point Thursday to 2.25%, its first increase since 2023, as the war involving Iran drives up energy costs and pushes inflation further above target.
The decision marks a sharp turn for euro zone monetary policy and makes the ECB the first among major global peers to tighten in response to the latest energy shock. Markets had widely expected the move ahead of the June Governing Council meeting, with LSEG data showing traders had priced in a near-certain chance of at least a 25-basis-point increase.
The ECB said the hike was aimed at countering inflation pressures tied to the war. “The war in the Middle East is generating inflation pressures, and the decision to raise rates is robust across a range of scenarios mapping out how the shock might evolve and affect the medium-term outlook for the euro area,” the Governing Council said.
The central bank also lifted its inflation projections and lowered its growth outlook. It now expects headline inflation in the euro zone to average 3% in 2026, before easing to 2.3% in 2027 and 2% in 2028. Growth is forecast at 0.8% this year, 1.2% next year and 1.5% in 2028.
Officials said higher energy prices are expected to filter into food, goods and services, while the weaker growth outlook reflects a heavier impact from the war on commodity markets, household incomes and confidence. Flash data showed euro zone inflation rose to 3.2% in May, while the region’s economy expanded by just 0.1% in the first quarter.
The conflict has intensified pressure on energy markets. The Iran war recently passed the 100-day mark, and the closure of the Strait of Hormuz along with damage to energy production facilities in the Middle East has created severe supply constraints. A fragile ceasefire remains in place, but recent exchanges have underscored the risk of renewed escalation: Iran launched missiles toward Israel on Sunday after Israeli strikes on Beirut, the first such bombardment since an April ceasefire, according to reports from CBS News and CBC.
ECB President Christine Lagarde said the policy outlook remains unsettled and stressed that the bank is not locking itself into a sequence of further moves. “The outlook remains uncertain, with upside risks for inflation, and downside risks for economic growth. We are not pre-committing to a particular rate path,” she told reporters Thursday.
Financial market reaction was muted after the announcement. The yield on the 10-year German bund, a benchmark for the euro zone, was 2 basis points lower by midafternoon in Frankfurt, while the euro was little changed against the dollar and the British pound.
The next question for policymakers is whether the energy shock proves temporary or feeds more broadly into prices and wages. The ECB said it will continue monitoring the war’s impact, with future rate decisions dependent on how inflation, growth and commodity markets develop.
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