ECB Rate Hike Looms as Eurozone Inflation Rises

The European Central Bank (ECB) is expected to raise interest rates on Thursday, but the reasoning behind this move is less clear. Market odds suggest a quarter-point hike is almost certain, which would lift the ECB's deposit rate from 2.25% to 2.5%. This rate hike comes after the ECB raised rates for the first time in three years in June, in response to an energy shock caused by the Iran war.

The August inflation figures show eurozone inflation hitting 3.3%, up from 2.9% in July and the highest since September 2023. However, beneath the headline inflation figure, core inflation, which strips out energy, food, alcohol, and tobacco, actually fell to 2.4% from 2.5%. Services inflation, closely tied to wages and domestic demand, dropped to 3% from 3.3%, indicating little evidence of 'second-round effects'.

The ECB's own research supports this distinction, attributing around 90% of the rise in energy inflation between January and May to adverse energy supply factors driven by geopolitical tensions.