Will rates go higher in Europe this week? Central banks confront stagflation threat

• Euro zone inflation stands at 2.5% while U.K. inflation hit levels above central banks' 2% targets, with energy prices spiking due to the Iran conflict that began in late February.
• Economists expect both banks to maintain current rates and 'look through' the inflation noise, with potential ECB rate hikes of 25 basis points possible at the June meeting if second-round effects emerge.
• BOE's nine-member committee is expected to vote 8-1 to hold rates unchanged for the rest of 2026, prioritizing growth concerns over inflation risks as surveys suggest a more front-loaded economic hit than in 2022.

Summary

The European Central Bank (ECB) and Bank of England (BOE) are set to announce monetary policy decisions Thursday amid rising stagflation concerns—characterized by slow growth, high inflation, and rising unemployment—stemming from the Iran conflict and soaring fuel prices.

Key Rates and Inflation:

• ECB current rate: 2%
• BOE current rate: 3.75%
• Euro zone inflation: 2.5%
• Both targets: 2%
• BOE inflation expected to peak between 3%-3.5% in Q2-Q3 2026

Expected Decisions:

Both central banks are widely expected to hold rates steady this week, despite market initially pricing in hikes after the Iran conflict erupted in late February. March data shows the war is already weighing on European economies.

Forward Outlook:

Economists predict the ECB may implement a 25-basis-point hike in June, raising rates to 2.25%, if data shows evidence of "second-round effects"—including rising wage demands and persistent price increases. Oxford Economics expects potential hikes in June and July.

For the BOE, most economists forecast an 8-1 vote to hold rates, with only Chief Economist Huw Pill expected to dissent in favor of hiking. A recent survey showed economists expect rates unchanged for the remainder of 2026.

Market Implications:

Policymakers face a delicate balancing act: addressing inflation without further damaging growth. Central banks are expected to "look through" temporary inflation spikes caused by external factors while monitoring for stickier, second-round effects. Santander's CFO noted rate increases in Europe will likely be "very moderate."

The June ECB meeting is identified as the critical decision point for potential policy tightening.