Euro zone inflation keeps ECB rate hike in focus

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Highlights

Inflation stayed above the ECB’s target in Germany, France, Italy and Spain.
France rose to 2.8%, Italy to 3.3% and Spain to 3.6%, while Germany held at 2.7%.
Markets are pricing in a quarter-point ECB rate hike next month and another increase by year-end.
The euro zone inflation reading due next week is expected to move further above April’s 3% level.

Inflation stays above target

According to Bloomberg, May inflation readings in the euro zone’s four largest economies remained beyond the ECB’s comfort zone. France’s EU-harmonized inflation rate accelerated to 2.8% from 2.5% in April, its highest level since February 2024, driven largely by higher energy prices linked to the war in Iran and disruption risks around the Strait of Hormuz. Energy inflation in France rose to 16.8% from 14.3% a month earlier, while services prices also increased.

Italy’s inflation quickened to 3.3%, Spain’s rose to 3.6%, and Germany’s headline rate, though lower than before, remained elevated at 2.7%. The softer German figure is unlikely to change the broader policy debate, since it partly reflects temporary cuts in fuel-related taxes and lower food prices. Excluding those categories, underlying price pressure remains a concern for policymakers.

ECB officials signal tightening

The figures add weight to recent comments from senior ECB officials. Executive Board member Isabel Schnabel has said a June rate hike will probably be needed, while Chief Economist Philip Lane warned that the longer the Gulf conflict continues, the less likely it becomes that the ECB can treat the energy shock as temporary.

Investors are now pricing in two quarter-point increases this year, which would lift euro zone borrowing costs to 2.5%, their highest level since March 2025. Inflation reached 3% in April, and economists expect the euro zone-wide estimate due next week to stay at or above that level. The ECB’s medium-term inflation target remains 2%, making the persistence of price growth harder for officials to ignore.

Growth risks complicate the decision

The case for higher rates is not straightforward. France’s economy contracted 0.1% in the first quarter as consumer spending and business investment weakened, raising concern that tighter policy could deepen a slowdown. Italy offered a different signal, with first-quarter growth revised higher and improvements across household spending, investment and trade.

That split leaves the ECB facing a familiar dilemma: inflation is still too high, but growth is uneven. The immediate question is whether higher energy costs are producing second-round effects through wages, services and company pricing decisions. If next week’s euro zone inflation report confirms that pressure is spreading, the June meeting could mark a clear turn back toward monetary tightening.

In addition, we wrote that ECB weighs inflation fight against growth risks.

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