Europe raised interest rates for the first time in 3 years

On June 11, the European Central Bank (ECB) announced to raise the reference interest rate by 25 basis points (0.25%), to 2.25%. This decision was previously predicted by the market.

The ECB said this move was made to ease inflationary pressures caused by the Middle East war. “The increase in interest rates is appropriate considering many scenarios regarding the situation in the Middle East and the impact of this shock on the medium-term outlook of the euro area,” the announcement read.

The ECB also raised its eurozone inflation forecast to an average of 3% this year. In the next two years, this rate will cool down to 2.3% and 2%. The outlook changes due to forecasts of higher energy prices, which increase the cost of food, goods and services.

Economic growth forecasts were also adjusted downward for this year and next. The ECB currently forecasts eurozone GDP to increase by an average of 0.8% in 2026 and gradually increase to above 1% in the next 2 years.

Officials said this reflected “a more obvious impact of the fighting on commodity markets, real income and people’s confidence”. They assess that the future still has many uncertainties, especially with inflation and growth. The full impact of hostilities will depend on the extent and duration of the energy price shock, as well as spillover effects.

The war in the Middle East has lasted nearly 3 months, disrupting global energy flows due to the Strait of Hormuz being closed and production facilities in the Middle East being attacked. The ceasefire is still in effect, but tensions between Washington and Tehran have been escalating in recent days.

Mark Wall – chief European economist at Deutsche Bank – said that the ECB’s decision to raise interest rates comes at a “watershed moment”. “This is the first interest rate increase by a major central bank in the world to respond to an energy shock,” he wrote in the report. However, he believes that this tightening cycle will not last long. The ECB may only raise interest rates one more time in September.