Key Takeaways:
Euro zone consumer prices rose 3.3% in August, the fastest pace in over a year, as energy costs tied to the Iran war pushed inflation back above the European Central Bank's 2% target.
Euro zone inflation accelerated to 3.3% in August from 2.9% in July, driven by energy prices linked to the Iran war, cementing market expectations that the European Central Bank will raise interest rates by a quarter point on Sept. 10.
"At the current policy rate, inflation is unlikely to return to target over the medium term, and therefore further tightening will be necessary," Isabel Schnabel, an ECB executive board member, told Bloomberg last week.
Swap markets price a 96.6% probability of a 25-basis-point hike to 2.5% at the Sept. 10 meeting, with roughly 60 basis points of tightening priced over the next 12 months. Core inflation is expected to hold at 2.5% for a second straight month, while Goldman Sachs Research sees headline inflation at 3.36% on energy prices rising 14.4% year over year.
The move would mark the ECB's second increase in three months after its June hike — the first in nearly three years — and tighten conditions across a euro area where the neutral range is estimated at 1.75% to 3.00%. If the Iran war keeps energy prices elevated, inflation could peak near 3.5% this year before base effects pull it back toward 2% by spring.
Energy, not wages, drives the spike
The acceleration is concentrated in energy rather than second-round wage effects. Italy's August CPI rose to 3.3% year over year from 2.9%, with non-regulated energy prices climbing 16.9% and regulated energy 18.8%, while services inflation eased to 2.4% from 2.7%. German harmonized inflation is expected at 3.1% in August, up from 2.8%.
"The main driver of headline inflation is higher energy prices. Price pressures in the services sector also remain stubbornly high. However, this should not be seen as a second-round effect, as there are no signs of an acceleration in wage growth," said Joachim Schallmayer, head of capital markets and strategy at Deka. Negotiated wages in the euro area slowed to 2.4% year over year in the second quarter, the lowest since late 2021, while household inflation expectations eased to 2.9% at one year and stayed anchored at 2.4% at five years.
Oil and gas keep the pressure on
The inflation impulse traces to the Strait of Hormuz, where U.S. strikes on Iranian launchers and an Iranian retaliatory attack on U.S. targets in Jordan renewed supply fears. Brent briefly traded above $90 a barrel while European TTF gas reached 67 euros per megawatt-hour, the highest since January 2023, with EU storage expected to stand at just 69% on Nov. 1 — an all-time low for that point in the year.
Schallmayer expects Brent to ease toward $80 by year-end as supply routes adjust, but warns a renewed escalation hitting energy infrastructure could push oil "quickly back above $100." Morningstar analysts see European gas prices rising to 90-120 euros per megawatt-hour in a cold winter, keeping the ECB's inflation problem alive into 2027.
The tightening path now hinges on the Sept. 10 decision and whether energy-driven inflation bleeds into services. With the ECB's pre-decision quiet period approaching, the flash CPI print and PMI releases are the last scheduled signals before policymakers meet.
This article is for informational purposes only and does not constitute investment advice.
