ECB gives itself six weeks
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As expected, the ECB kept its deposit rate unchanged at 2% at its policy meeting on 30 April. As a result, the refinancing rate and the marginal lending rate also remained unchanged at 2.15% and 2.40% respectively.
More important, however, was what we could see from the communication regarding a possible future ECB reaction to the negative supply shock caused by the war in Iran. Markets are already assuming that the ECB will probably raise its policy rate by 25 basis points in June.
In her press conference, ECB president Lagarde indicated that while a possible rate hike was thoroughly discussed at the April meeting, it was ultimately unanimously decided to leave policy rates unchanged for the time being. Nevertheless, Lagarde unsurprisingly indicated that inflation risks were clearly on the upside, and growth risks on the downside. Both risks increased compared to the previous policy meeting. According to the ECB's assessment, the economy is moving away from the baseline scenario it had presented in March, alongside two alternative scenarios. Still, Lagarde did not want to talk about a stagflation scenario, which she said was reserved for the shocks of the 1970s, with a stagnant economy, high inflation, a structurally high unemployment rate and a totally different monetary environment than today.
Insufficient information
According to Lagarde, April's policy decision was "an informed decision based on insufficient information". As a result of that uncertainty, the central bank is therefore taking its time until the next policy meeting on 11 June to calibrate its possible policy response based on the additional data available. That should be enough time to get more clarity, particularly on the duration and outcome of the Middle East conflict, according to Lagarde.
In support of the June policy meeting, ECB economists will also provide an update on both the baseline and alternative scenarios. Should ECB policymakers come to the conclusion that a rate hike is needed, this would be an appropriate opportunity for it. The market is already assuming this with a high probability. However, this is not yet certain. Asked whether the ECB's March baseline scenario actually implicitly confirmed market expectations of some policy rate hikes, Lagarde answered ambiguously. On the one hand, she noted that the market apparently understood well the ECB's reaction function. On the other hand, however, she also gave reasons why the ECB has not yet raised policy rates so far (contrary to market expectations just after the outbreak of war). The main reasons are the ‘good position’ the ECB was in just before the war, with inflation around 2% and a roughly neutral policy rate. The most recent further fall in euro area core inflation in April to 2.2% is consistent with this. With this favourable starting position, Lagarde said the ECB can afford to wait and see how the conflict develops. In addition, Lagarde also stressed that no second-round effects requiring immediate central bank intervention are visible for the time being. Indeed, medium-term inflation expectations remain well anchored around the policy target for now, and wage developments in the euro area also show no signs of discounting higher inflation expectations.
New round in the trade dispute
One or more rate hikes during the course of this year, as expected by the market, are therefore certainly a possibility. However, this is not certain. Indeed, the ECB's appropriate policy response depends not only on the further development of already known shocks, in particular the war in Iran, but also on any additional shocks. As an illustration of this, US President Trump announced on 1 May a new round in the trade dispute with the EU. Import tariffs on European cars will be raised to 25% with almost immediate effect, at a time when the European economy had just learned to live with the trade deal the EU signed with the US in summer 2025. If the latest tariff increase announcement turns out to be more than a storm in a teacup, it could have significant economic consequences for the euro area economy and ECB policy. If there is a European retaliation, it means an additional negative supply shock that increases the ECB's policy dilemma. If, as in 2025, there is no European retaliation, it means a negative demand shock to the European economy, which ceteris paribus would dampen growth but also inflation. That additional uncertainty will be one of the elements the ECB will have to consider ahead of its policy meeting on 11 June.