The European Central Bank left interest rates unchanged at its latest meeting, fully in line with market expectations. However, the regulator’s tone has become noticeably more hawkish. In particular, the ECB highlighted rising risks related to inflation, as well as a deterioration in economic growth prospects.
Financial markets are already pricing in several rate hikes in 2026. The first move could come as early as June, followed by possible decisions in July and autumn. In this way, the ECB is signaling its readiness to act more quickly than before to prevent a new wave of inflation.
Inflation rises due to energy prices
In April, inflation in the eurozone reached 3%, significantly above the 2% target level. The main reason was a sharp increase in energy prices. Escalation of the conflict in the Middle East, including tensions around Iran, has pushed oil prices to their highest level in the past four years.
Economists are concerned about the so-called “second-round effect,” when rising energy prices begin to spread to other goods and services. In such a case, inflation becomes much harder to control. At the same time, core inflation, which excludes volatile components, slightly declined from 2.3% to 2.2%. This suggests that sustained inflationary pressure is not yet present, but the risks of it emerging are increasing.
The eurozone economy is slowing
Amid rising prices, economic activity in the eurozone remains weak. Growth in the first quarter was minimal, and the situation may worsen in the second quarter due to external factors.
Particularly worrying signals are coming from Germany, where an economic contraction cannot be ruled out. Business activity is declining faster than expected, the services sector is weakening, corporate profits are falling, and banks are beginning to restrict access to credit for businesses. Experts believe that the energy crisis could reduce economic growth by about 0.5 percentage points, which would be a significant blow to the region.
Why the ECB is acting cautiously
Despite inflationary pressure, the ECB is not rushing to raise rates sharply. Unlike in 2022, when the regulator was forced to increase rates by 450 basis points in a short period, the current situation appears less critical.
The labor market has weakened, price growth is less persistent, and interest rates are already at a higher level. Therefore, the regulator is trying to strike a balance between fighting inflation and supporting the economy. The main goal is to avoid a repeat of a sharp surge in prices while preventing a recession.
Interestingly, the ECB is not alone in taking a wait-and-see approach. This week, rates were also left unchanged by the Federal Reserve, the Bank of England, the Bank of Canada, and the Bank of Japan. All of them have expressed concerns about inflation but prefer to wait for additional data before making new decisions.
Experts also highlight the so-called “memory effect.” After the strong inflation shock of 2021–2022, companies and workers have become quicker to react to rising prices. Businesses may raise prices in advance, while employees may demand higher wages more actively. This could accelerate inflationary processes and make the task of central banks more difficult.
What this means for Cyprus and the eurozone
For eurozone countries, including Cyprus, ECB decisions directly affect loan costs, mortgages, and deposit yields. A potential rate hike would increase borrowing costs but could also improve returns on savings.
In the coming months, the key factor will be energy price dynamics and geopolitical developments. These will determine how actively the ECB begins tightening monetary policy.