ECB hikes interest rates for first time since 2023 as Iran war ramps up energy costs

The European Central Bank announced a quarter-point rate hike on Thursday, bringing its key interest rate to 2.25% as the Iran war continues to blow inflation off target.

Markets had been pricing in a near-100% chance of the ECB raising rates by at least 25 basis points ahead of its June Governing Council meeting, according to LSEG data.

The ECB's Governing Council said the decision had been made in a bid to ward off inflationary pressures generated by the U.S.-Iran 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,” it said in a statement announcing the decision.

The central bank also raised its inflation forecasts, saying it now expects headline inflation in the euro zone to average 3% in 2026 before cooling to 2.3% next year and 2% in 2028.

It said the outlook had been altered in response to expectations of higher energy prices, which are expected to feed into the cost of food, goods and services.

Economic growth forecasts, meanwhile, were revised downward for this year and next year. The ECB now expects growth in the euro zone to average at 0.8% in 2026, 1.2% in 2027 and 1.5% in 2028.

Officials said the growth outlook had been trimmed to reflect “a more pronounced impact of the war on commodity markets, real incomes and confidence.”

Speaking to reporters on Thursday afternoon, ECB President Christine Lagarde reiterated that the war in the Middle East is generating inflation pressures.

“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 said.

“The full implications of the war for medium-term inflation and growth will depend on the intensity and duration of the energy price shock, as well as the scale of its indirect and second-round effects.”

The Iran war — which recently crossed the 100-day mark — has caused a global energy price shock, as the closure of the Strait of Hormuz waterway and destruction of energy production facilities in the Middle East have created severe supply constraints. A fragile ceasefire remains in place, but tensions have escalated between Washington and Tehran in recent days.