The ECB leaves interest rates unchanged, but inflation is bringing another rate hike closer. Lagarde and the Élysée

Christine Lagarde explained yesterday at a press conference that the neutrality of central bankers is “the price we pay for being independent”. She has decided to stop paying that price in the run-up to the French elections. She will therefore step down as President of the ECB on 7 February, nine months before her term is due to end, because she wants “freedom of speech, freedom of expression and the ability to speak out on issues that do not concern monetary policy”. Until then, however, she has promised to lead the ECB, whose Governing Council decided unanimously yesterday to leave interest rates unchanged, as proposed by the Central Bank’s economists: the deposit rate at 2.5 per cent, the refinancing rate at 2.65 per cent and the marginal lending rate at 2.90 per cent. Despite this, as the President herself admitted, the Eurozone governors did discuss the option of a rate rise, given that inflation is rising faster than expected. “We looked at the figures, the increased risks and the financial tightening linked to long-term rates,” explained Lagarde. At the ECB’s next meeting, if these trends are confirmed, “the direction we are heading in is quite clear,” she added. 

So, following the rate rises in June and September, this pause does not mark the end of monetary tightening. Inflation rose from 3.2 per cent in August to 3.8 per cent in September, exceeding the ECB’s year-end forecast of 3.6 per cent, due to energy prices, which have risen by 18.9 per cent year-on-year. The ECB’s September projections for this quarter, in the baseline scenario, assumed Brent crude at $88 per barrel and gas at €60 per MWh; in the adverse scenario, these figures were $99 and €77 respectively. Yesterday morning, Brent was stable at around $114, whilst gas on the Amsterdam TTF was trading at around €97 per MWh. Diesel and petrol prices remain high. “Energy prices have risen more than expected,” Lagarde summarised. A harsh winter would certainly not help. In the severe scenario, with oil at $132 and gas at €130, the ECB has forecast inflation of 5.4 per cent in 2027 and growth of 0.4 per cent, compared with the 1.4 per cent previously forecast, driven by investment in AI and spending on defence and infrastructure.

Meanwhile, the situation in the Middle East shows no sign of improving. And the greatest risk lies in the wake of the US election on 3 November, because, according to the Wall Street Journal, the White House has asked several Gulf states to prepare for a ‘short and intense’ military campaign against Iran. Saudi Arabia, in the first 22 days of October, according to Vortexa data reported by Javier Blas of Bloomberg, is said to have pushed oil exports to record levels: over 7 million barrels a day, reaching pre-war levels. The aim is to sell as much oil as possible before the conflict resumes, or before the Houthis in Yemen damage further energy facilities. Just as happened on Tuesday, when the Houthis struck a Saudi refinery in Ras Tanura capable of processing up to 550,000 barrels a day.

Why not raise interest rates, then? Because, according to economists, the two previous rate rises are already feeding through to the rest of the economy. The ECB also describes an economy that continued to expand in the third quarter, supported by services, investment in AI and public spending on infrastructure and defence. “We do not see any significant risks of second-round effects,” commented Lagarde (triggered, for example, by contract renewals that make up for past inflation and firms passing on higher labour costs to prices). Core inflation, excluding the more volatile food and energy prices, stands at 2.5 per cent. The ECB’s Bank Lending Survey (conducted amongst 159 banks), however, found that in the third quarter of 2026, demand for loans was falling across all sectors of the economy, mainly due to rising interest rates. Households are postponing mortgages, businesses are seeking less financing, but above all, banks are becoming more selective in granting credit to companies (for mortgages, however, the lending criteria have remained unchanged), due to perceived higher financial risks and a reduced willingness to take them on. Even for sound and profitable banks, credit risk is taking its toll: between the end of September and Wednesday, the Stoxx Europe Banks index fell by around 8 per cent, whilst the Stoxx 600 rose by 1.5 per cent. Two stubborn and opposing trends. Banks nevertheless expect greater demand for financing AI data centres.

Lagarde then reminded those countries with a high debt-to-GDP ratio that interest rates could remain high for a long time. Yesterday, for example, the spread between French and German 10-year bonds stood at around 155 basis points, compared with 85 at the start of September. But on France – Europe’s main problem child (fiscally speaking), the country where Lagarde will want “freedom of speech” from February onwards, where elections are due on 18 April, where protesters are calling for Macron’s resignation and where polls show Marine Le Pen as the favourite – Lagarde said little or nothing yesterday. Instead, she spoke of a rise in global yields, “not just in one specific Member State”, and as for the risk of the French fiscal crisis spreading across borders, ECB economists have not yet sounded the alarm; they remain cautious: they will continue to monitor the situation.

P.S.: Before she leaves, Lagarde could also leave her mark on the digital euro. The February meeting – Lagarde’s last – could be the first at which the ECB decides whether to issue it. She would be leaving Frankfurt early enough to get involved in the French election campaign and late enough to link her name to the digital euro.