The war between the US and Israel against Iran has seriously disrupted the inflation and interest rate outlook in Europe, threatening energy flows and economic growth.
While central banks have until recently considered stable or lower interest rates, the new geopolitical reality calls for caution – and potentially longer retention of high borrowing costs.
War as a new economic factor
Before the start of the war against Iran in late February, European central banks had a much more favorable outlook on inflation, with interest rates expected to hold steady or continue to fall across the continent.
However, the conflict has upset the economic balance, challenging energy supply, economic growth and price stability. As a result, expectations about the movement of interest rates have completely changed.
On Thursday, key European institutions – the European Central Bank, the Bank of England, the Swedish Riksbank and the Swiss National Bank – make their decisions on monetary policy. It will also be their first official comments on the impact of the war on their policies.
ECB: Inflation under control – but with increasing risks
Even before the conflict broke out, the European Central Bank was expected to keep its benchmark interest rate unchanged, as inflation in the eurozone hovered close to its 2% target.
According to the latest Eurostat data, inflation was 1.9% in February, compared to 1.7% in January, Investor me reports.
ECB president Christine Lagarde previously said the eurozone economy was “in good shape” but warned against complacency – which is now proving to be justified.
Special market attention will be focused on the ECB’s guidance, especially after Iran closed the Strait of Hormuz, a key route for global oil and gas supplies. This increases energy prices and inflationary pressures.
Analysts expect the ECB to keep the deposit rate at 2% for the sixth time in a row, but with significantly tougher rhetoric.
Estimates indicate that inflation could exceed the target in the short term and reach around 3% during this year, with a significant contribution from the rise in energy prices.
Bank of England: From interest rate cuts – to waiting
The Bank of England was previously on track to cut interest rates in March to ease pressure on households and businesses. However, the war changed that perspective.
Economists now believe that the central bank will keep the key interest rate (Bank Rate) at 3.75% while assessing the duration and consequences of the conflict.
Expectations of interest rate cuts in the spring have practically disappeared, and the possibility of their increase later in the year is not even ruled out.
The most realistic scenario, according to analysts, is “status quo” – without additional tightening, but also without loosening the monetary policy until the situation is clarified.
Switzerland: Stability despite the crisis
The Swiss National Bank is likely to keep the benchmark rate at 0%.
The Swiss economy is considered more resistant to shocks from the Middle East compared to the rest of Europe, primarily due to less dependence on energy imports.
Although increased volatility and a strengthening Swiss franc could prompt interventions in the foreign exchange market, the franc is expected to remain strong as a “safe haven” for capital in times of global uncertainty.
Sweden: Weak inflation, but rising risks
The Swedish central bank (Riksbank) will also, apparently, keep the interest rate at 1.75%.
Economic data point to weak inflation and sluggish growth, with inflation expected to fall to around 1% during the year.
However, rising energy prices could ease fears of too much of a fall in inflation expectations.
Analysts expect interest rates to remain unchanged for at least the next three quarters.
New reality: Geopolitics dictates monetary policy
The war in Iran has returned geopolitics to the center of economic decisions.
Central banks are now balancing between fighting inflation and preserving economic growth, amid high uncertainty.
For citizens and businesses across Europe, this means one thing: the period of cheap money is over – at least for longer than expected just a few weeks ago.
