ECB Set for More Rate Hikes Amid Ongoing Middle East Tensions

Nomura strategists believe the European Central Bank (ECB) will raise interest rates this week, taking the deposit rate to 2.50%. They expect this hike to be followed by another increase after a 2025 cut back to neutral to counter inflation risks related to the Iran war.

The ECB's decision to raise rates is based on the euro area GDP growth being close to potential in recent quarters, with a stable rate of around 0.3% quarter-over-quarter since 2024. This growth rate aligns with estimates for potential economic growth (0.27-0.33% q-o-q).

The ECB's estimate of nominal neutral ranges has shifted upwards, from around 1.25%-2.50% in H2 2023 to 1.75%-2.50% in 2026. This change, along with the Riksbank's lower estimate (1.50%-3.00%), has led to a more aligned policy rate between the two central banks.

However, despite the ECB following similar policy rates as the Riksbank, the latter does not necessarily follow ECB policy due to different pre-existing inflation backdrops and levels of rates compared to neutral.