ECB should raise interest rates in June, says Council member

The European Central Bank should raise interest rates in June even if a peace deal with Iran is reached, as the conflict is lasting longer than expected and high energy prices are having repercussions on the broader economy, according to Council member Isabel Schnabel.

The ECB has maintained interest rates over the past year, but debated an increase last month as sharply higher energy costs pushed inflation well above the 2% target, and several policymakers signaled the need for action.

"Given the size and persistence of the current shock, I no longer see it as an option to evaluate superficially," Schnabel told Reuters in an interview. "From the current point of view, I think an interest rate increase will be necessary in June."

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While the United States has signaled progress in peace talks with Iran, Schnabel, a potential successor to ECB President Christine Lagarde next year, said the ECB may have passed the point of no return because energy infrastructure has been damaged and high energy prices are being passed on to the broader economy.

Peace deal unlikely to interrupt surge
"Even if the war ended today, a lot of damage has already been done to energy infrastructure and global supply chains," said Schnabel, a former university professor. "So even then, I believe a monetary policy response would be necessary."

"In terms of persistence, we have indeed gone beyond the adverse scenario, which assumed a rapid normalization of oil prices," she continued.

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Inflation reached 3% last month, with further increases likely, and authorities fear that high energy costs will increase the price of other goods and services through spillover effects, triggering an inflation spiral.

Schnabel said some of these secondary effects may already be materializing, as indicated by several surveys, including the ECB's Consumer Expectations Survey, PMI data and the European Commission's confidence indicator.

"We are seeing increasing signs that the shock is spreading to other parts of the consumer basket," Schnabel stressed.

After June, the ECB should not commit to any policy moves and should reassess the stance at each meeting based on the data, Schnabel added.

Still, she highlighted that the ECB's own basic projection includes two interest rate increases.

Financial markets have fully priced in two hikes in the ECB's 2% deposit rate and see a roughly 50% chance of a third hike next year. Economists are more cautious and predict just two increases, followed by a cut in mid-2027, according to a Reuters poll.

Economic growth
One of the main reasons ECB watchers see only a slight tightening of monetary policy is that the eurozone economy remains weak and high energy costs could weigh on expansion more than feared.

Last week, the European Commission predicted an expansion of 0.9% in 2026, a major slowdown compared to last year and which may still be too optimistic.

"Given the high persistence of the shock, I believe that the negative impact on economic growth will also be stronger", declared Schnabel.

"We have seen a sharp decline in confidence indicators, especially among consumers."

"All of this implies downside risks for economic growth and upside risks for inflation," he concluded.

Schnabel, who is responsible for the ECB's market operations, said financial markets were taking the developments in stride and that the recent volatility in government bond yields was not worrying.

Regarding the future, Schnabel, whose term at the ECB expires at the end of 2027, shared that she would be ready to take on the role of president if invited.

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Source: CNN