ECB Markets Shift Towards More Restrictive Path Amid Energy Risks

Financial markets are increasingly positioning for a more hawkish European Central Bank (ECB) due to rising concerns about the prolonged impact of geopolitical tensions on energy-related inflation. Investors are now betting that the ECB's deposit rate could approach 3% by late 2027, with markets assigning a growing probability to further rate increases after an expected hike in September.

The ECB raised rates in June as it responded to inflationary pressures triggered by an energy shock linked to the U.S.-Iran conflict. According to Reuters, the latest market pricing reflects growing concern that the inflation impact of the conflict could extend beyond higher crude oil prices. Brent crude has been trading above $90 a barrel, while risks surrounding refined fuel supplies, low euro zone gas inventories and the possibility of a prolonged conflict have added to concerns over the inflation outlook.

Markets are pricing an approximately 25% probability of the ECB deposit rate reaching 3% by March 2027 and around a 60% probability by September 2027. A month earlier, investors had seen virtually no chance of the rate reaching 3% by March.