ECB rate decision: Five key questions for markets as energy prices fuel inflation fears

The European Central Bank is widely expected to raise interest rates on Thursday as policymakers weigh renewed inflation risks from surging energy prices against signs of resilience in the eurozone economy, Reuters reported.

Brent crude has climbed over the past month, while European natural gas prices have risen to their highest levels since early 2023. The increase in energy costs has pushed eurozone inflation back above 3% in August, raising concerns that the latest price shock could slow the ECB's progress towards its 2% inflation target.

With markets already pricing in a quarter-point rate increase, attention is shifting to the ECB's guidance on future policy, its updated economic projections and the impact of rising global bond yields.


Here are five questions likely to matter most for markets:

1. Is a September rate hike already priced in?

For financial markets, the answer is largely yes.

Sources told Reuters that the ECB is ready to raise rates again in September, reinforcing signals from the minutes of its July meeting. Markets have fully priced in a 25-basis-point increase, which would take the deposit rate to 2.5%.

The expected hike comes after inflation accelerated in August, largely because of higher energy costs. The move would represent a cautious step by policymakers to prevent the energy shock from feeding into broader inflation expectations.

2. Will the ECB continue raising rates?

The outlook beyond September is far less certain.

ECB policymakers are unlikely to commit themselves to a series of additional rate increases, particularly as higher borrowing costs could weigh on economic activity. Economists polled by Reuters largely expect the central bank to stop tightening after this month's expected hike.

Markets, however, continue to price in a meaningful possibility of another increase by December, with the prospect of an additional move next year also being considered.

Much will depend on whether higher oil and gas prices begin to spread into underlying inflation. So far, there is limited evidence of such broadening. Services inflation eased in August, while wage growth continues to slow and the labour market is showing signs of weakening.

That leaves the ECB facing a difficult balancing act: containing renewed inflation without unnecessarily damaging economic growth.

3. Will the ECB change its economic forecasts?

The ECB's new projections will be closely watched for clues about the direction of policy.

Economists generally expect the central bank's inflation and growth forecasts to remain broadly unchanged, although there is some scope for a modest upward revision to its growth outlook.

Recent economic data has been stronger than expected. Eurozone business activity continued to expand in August, with S&P Global data showing growth at the same pace as July, when activity recorded its strongest performance of the year.

A stronger growth outlook could give the ECB greater flexibility, but persistent energy inflation could complicate its assessment of the economic outlook.

4. Does the U.S. intervention in currency markets matter for the ECB?

The U.S. decision to sell euros to buy yen has limited direct implications for ECB interest-rate policy. However, European policymakers are concerned about the broader implications of increased U.S. intervention in financial markets, sources told Reuters.

European officials were also frustrated that Washington did not provide the customary advance notice that euros would be used as part of the intervention to support the yen.

The episode could add to concerns among European policymakers about increased volatility in currency and bond markets, particularly if further intervention by major economies becomes necessary.

5. Can the bond selloff do some of the ECB's work?

Rising global bond yields are another major issue for policymakers.

Government borrowing costs have climbed as investors grapple with higher energy prices, persistent inflation concerns and worries about elevated public debt. Ten-year borrowing costs in France and Italy have risen by around 65 basis points this year, while German yields have increased by about 50 basis points.

Higher long-term yields tighten financial conditions by increasing borrowing costs for governments, companies and households. That can dampen economic activity and inflation, potentially reducing the need for further ECB rate increases.

The central bank is therefore likely to face questions about whether the bond selloff requires a policy response.

The ECB is generally expected to tolerate higher yields when they reflect underlying economic fundamentals. The bigger concern would be a disorderly or excessive rise in borrowing costs that threatens financial stability.

Market focus shifts beyond Thursday's hike

For investors, the September rate increase is increasingly viewed as a near certainty. The bigger market-moving factor will be what comes next.

ECB guidance on future rate moves, the updated growth and inflation forecasts, energy prices and the sharp rise in government bond yields will all shape expectations for the remainder of the year.

With inflation once again above 3%, markets are likely to scrutinise every signal on whether the latest energy shock is temporary or could trigger a more persistent inflation problem.