J.P. Morgan and BNP Paribas now expect the ECB to raise interest rates by 25 basis points in December, reversing earlier expectations that the central bank would conclude its tightening cycle sooner. Markets are already pricing a very high probability of a further increase at the ECB's 10 September meeting.
The change in outlook reflects a difficult combination for policymakers. Oil prices remain above $95 a barrel following renewed U.S.-Iran military exchanges, while the underlying European economy has shown greater resilience than some investors expected.
Energy is the central transmission mechanism. A sustained increase in oil and fuel prices raises transportation and production costs, potentially feeding into wages and broader consumer prices. Policymakers must therefore consider the possibility that an external energy shock could generate second-round inflation effects.
The ECB's challenge is compounded by the limitations of monetary policy. Higher interest rates cannot produce more oil or repair disrupted supply chains. They can, however, restrain demand and prevent temporary energy inflation from becoming embedded in expectations.
The danger is that excessive tightening could weaken investment and consumption just as European businesses are absorbing higher operating costs. Conversely, failing to respond to persistent inflation could undermine confidence in the ECB's commitment to price stability.
Bond markets are already reflecting this uncertainty. Euro-zone yields have moved sharply during the recent global fixed-income sell-off, although they eased somewhat as Federal Reserve Governor Christopher Waller signalled that he would favour holding U.S. rates steady if incoming data confirmed continued disinflation.
The ECB's September decision will therefore be closely watched for more than its immediate rate move. Investors will focus on whether policymakers acknowledge the possibility that the energy shock could extend the tightening cycle into 2027.
Aldrenor Intelligence View: Europe's monetary-policy debate is increasingly being shaped by geopolitics. If energy prices remain elevated, the ECB may have to choose between supporting growth and preventing a second inflation wave, a trade-off that could define European markets through the final quarter.
