European Central Bank Seen Holding Rates as Inflation Eases and Trade Shock Fades

The European Central Bank is expected to keep its benchmark interest rate unchanged Thursday as inflation returns to target levels and the euro-area economy shows resilience in the face of higher U.S. tariffs.

Officials and analysts point to a slowing of inflation pressure and modest growth that together reduce immediate pressure for a policy move. The ECB’s deposit rate is widely expected to remain at 2%, a level that influences borrowing costs across the 20 countries that use the euro.

Recent data show the euro area expanded 0.1% in the second quarter from the previous quarter, and inflation slowed to 2.1% in August, roughly in line with the ECB’s 2% objective. A survey of purchasing managers by S&P Global registered 51.1 in August, with readings above 50 signaling expansion. Those indicators, together with a negotiated ceiling on U.S. tariffs of 15% for European goods, have eased worries that the bloc will be pushed into recession by trade measures.

The U.S. Federal Reserve has left open the possibility of a rate cut at its Sept. 17 meeting, but the ECB has signaled it will stand pat for now as policy makers balance the disinflationary trend against still-fragile growth. Markets and economists expect that if conditions continue to improve, the bank could contemplate rate reductions in coming months.

Attention at the ECB’s post-decision news conference will center on President Christine Lagarde’s remarks about a separate and pressing issue: France’s growing fiscal strain. France recorded a government deficit of 5.8% of GDP last year, and political divisions in Paris have hindered efforts to bring that figure down. That has pushed up French borrowing costs and raised the risk of market turmoil that could spill across the euro area.

The ECB has tools it could use to calm bond markets, including targeted purchases of government debt, but its mandate and rules constrain action. Under current EU frameworks, the ECB’s capacity to buy bonds to lower borrowing costs is limited to countries that are either complying with fiscal rules or demonstrating a clear path toward compliance. France is not currently meeting those conditions.

That constraint narrows Lagarde’s policy messaging: she must signal readiness to preserve financial stability without suggesting the ECB will underwrite countries that fail to address fiscal problems. “Lagarde will have to mince her words carefully this Thursday, neither suggesting that the ECB may eventually bail out an unrepentant fiscal sinner nor taking such a harsh line as to unsettle markets that still give France the benefit of the doubt,” said Holger Schmieding, chief economist at Berenberg.

Investors will also watch for any updated economic projections from the ECB that could signal the timing and extent of future rate moves. The bank raised rates sharply in 2021-23 to wrestle down a burst of inflation, and has since trimmed them as price pressures cooled and growth concerns emerged. With inflation near target and growth holding, the immediate policy choice appears to be stability rather than stimulus.

How Lagarde frames risks from trade, growth and member-state fiscal health could influence market sentiment in the coming weeks. If France’s borrowing costs continue to rise sharply, policymakers across the euro area and in Brussels may face renewed pressure to clarify the limits of support and the conditions under which the ECB would intervene.