Exclusive: ECB will react if Iran war pushes up inflation, Nagel says

• Money markets now assign slightly over 50% probability of a rate hike to 2% by year-end, up from current levels
• Nagel states that recent discussions about inflation undershooting the ECB's 2% target are 'likely to be over for the time being' due to energy price jumps
• The ECB is developing contingency scenarios as the Iran war creates upside inflation risks, though Nagel says it's too early to assess long-term consequences given the volatile situation

ECB Prepared for Swift Action on Iran War-Driven Inflation, Nagel Warns

Key Developments:

European Central Bank policymaker Joachim Nagel stated the ECB will respond "quickly and decisively" if higher fuel costs from the Iran conflict lead to persistently elevated eurozone inflation. The Bundesbank head supports a current "wait-and-see approach" but emphasized heightened vigilance as energy price jumps worsen the economic outlook.

Market Reaction:

Investors briefly priced in two ECB rate hikes on Monday before scaling back expectations after President Trump described the conflict as "very complete." Money markets now assign slightly over 50% probability of a year-end hike to the 2% policy rate.

Policy Context:

• Current ECB policy rate: 2%
• Eurozone inflation has hovered around the 2% target for over a year
• Recent debates about inflation undershooting the 2% target are "likely over," according to Nagel
• The ECB is modeling scenarios for growth and inflation if the conflict continues

Historical Parallel:

The ECB faced criticism for its slow response to the 2022 energy-driven inflation spike following Russia's Ukraine invasion, initially dismissing it as transitory.

Outlook:

Nagel noted Trump's remarks offer "cause for hope" but acknowledged it remains "too early to reliably assess the medium- to long-term consequences" given volatile conditions. The central bank's cautious stance reflects uncertainty about whether current energy price pressures will prove temporary or require monetary policy tightening.

The situation marks a significant shift from recent dovish sentiment, with inflation risks now tilted to the upside rather than downside.