ECB holds as Middle East shock sharpens stagflation trade-off
Lagarde and the Governing Council flagged that the war in the Middle East has made the outlook “significantly more uncertain”, with upside risks to inflation and downside risks to growth now pulling simultaneously in opposite directions. Inflation risk has returned just as growth has become more fra
The ECB left all three key rates unchanged on Thursday — deposit facility at 2.00%, main refinancing at 2.15%, marginal lending at 2.40%. The decision was expected. The message was not straightforward.
Lagarde and the Governing Council flagged that the war in the Middle East has made the outlook “significantly more uncertain”, with upside risks to inflation and downside risks to growth now pulling simultaneously in opposite directions. Inflation risk has returned just as growth has become more fragile.
The inflation data were already uncomfortable before the latest oil move. Headline CPI stood at 1.9% YoY in February; core at 2.4%. Renewed energy pressure on top of still-sticky underlying inflation makes it harder to assume the headline will stay anchored near the target. The updated projections reflect that: headline inflation is now seen at 2.6% in 2026, 2.0% in 2027 and 2.1% in 2028, with GDP growth at 0.9%, 1.3% and 1.4% respectively.
No tightening signal was given. The Governing Council repeated its meeting-by-meeting approach, preserving optionality rather than endorsing the roughly two quarter-point hikes traders briefly priced in — moves that partly reversed during the press conference. Lagarde noted the decision was unanimous and described the mood as calm and “laser focused” on incoming data. March was not a close call. April may be a different story if oil and gas remain near current levels.
Crucially, the ECB is now thinking in scenarios rather than anchoring to a single central case. A temporary energy shock can be looked through. A persistent one cannot — it would keep inflation elevated while simultaneously dragging on growth. That distinction will drive the policy debate at the April meeting.
On the growth side, Lagarde pointed to support from consumption, defence and infrastructure spending, and EU integration, and noted Europe is less fossil-fuel dependent than in 2022. The near-term hit is still real, however: higher energy costs erode real incomes, weaken confidence and compress spending.
Trade uncertainty and Ukraine-related disruption add to the drag. One additional signal: Lagarde stressed that any fiscal response should be temporary, targeted and tailored — a clear warning against the broad shielding measures seen in 2022.
The ECB has kept all options open under deteriorating conditions. What matters now is whether the conflict proves short-lived, whether energy prices pull back, and whether the inflation shock stays narrow or spreads into wages and expectations. The ECB is holding the line between vigilance and restraint — credible for now, but harder to maintain the longer energy prices stay elevated.