The European Central Bank (ECB) is expected to keep its key (deposit) interest rate unchanged at 2.5% at its meeting on Thursday, October 29, 2026, amid conflicting forces in the economy that are affecting the inflation outlook and complicating the conduct of monetary policy.
The ECB raised interest rates twice in 2026—by 25 basis points in June and by another 25 basis points in September— due to the surge in energy prices caused by the war in the Middle East and inflation exceeding the 2% target. The new energy shock pushed eurozone inflation to 3.8% in September, up from 2.1% in February, when U.S. and Israeli attacks against Iran began.
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So far, higher energy prices have had only a limited impact on the prices of other goods and services. Energy prices rose at an annual rate of 18.9% last month, compared with a 3.1% decline in February, while service prices rose by 3.5%, compared with a 3.3% increase, respectively. Core inflation, which excludes energy and food prices, rose marginally to 2.5%, up from 2.4% in the same period. However, a larger increase in core inflation is expected gradually, as businesses will not be able to absorb the higher energy costs.
Overall, however, the Eurozone economy is currently in a different phase than it was in 2021–2022, when supply chain disruptions during the pandemic and, subsequently, the energy shock caused by Russia’s invasion of Ukraine combined with rising corporate profit margins. High household liquidity, due to savings accumulated during the pandemic and government support measures, also contributed to inflation surging into double digits. Today, by contrast, demand in the economy is much more subdued, which is holding back upward pressure on prices.
Growth in the Eurozone continues, but at a significantly lower rate, around 1.2% (in the second quarter of 2026), and is based to a significant extent on business investment in artificial intelligence and exports of AI-related products. The green transition also contributes to the resilience of the European economy, as it mitigates the impact of high natural gas prices on electricity prices.
Consequently, the new wave of inflation is expected to be significantly milder than that of the 2021–2022 period, and, accordingly, the ECB’s monetary policy response is also expected to be milder, as noted by its chief economist, Philip Lane.
Money markets do not expect a change in the ECB’s interest rate this coming Thursday, but are pricing in two to three more rate hikes over the next twelve months, while the International Monetary Fund (IMF) forecasts at least one more hike by 2026.
The intensity of selling in the global bond market, which has significantly pushed up yields in Europe as well, may limit the need for further interest rate hikes by the ECB, as it helps reduce demand. Analysts surveyed by Bloomberg expect a final rate hike to 2.75% in December.
Higher bond yields are driving up borrowing costs for large companies, limiting their ability to turn to the capital markets to finance investment projects, while also increasing the cost of borrowing for governments.
In a speech in early October, Mr. Lane noted that the September inflation data do not indicate a broad-based and persistent rise in core inflation. At the same time, he emphasized that the rise in long-term bond yields would slow growth and limit the pass-through of higher energy costs more thanthe ECB had anticipated last month.
In the same vein, ECB President Christine Lagarde told the European Parliament late last month that “although growth is resilient, long-term interest rates have risen significantly since our last meeting, which will slow growth and limit the pass-through (of energy costs) more than anticipated in our September projections.”
