ECB’s Kazaks says rates may need to enter restrictive territory

European Central Bank policymaker Martins Kazaks said the ECB may need to push interest rates into restrictive territory as the war in Iran drives energy prices higher and keeps eurozone inflation well above the central bank's 2% target.

"The case is building up for more tightening," Kazaks, who also serves as governor of Latvia's central bank, told Reuters in a phone interview published on Sunday. His comments came days after the ECB raised its key interest rate to 2.5% from 2.25% on Thursday, marking its second hike of 2026.economictimes.indiatimes+1

Rates Could Move Beyond Neutral

Kazaks indicated that the current 2.5% rate, which the ECB considers the upper end of its estimated neutral range, should not be treated as a ceiling. "Interest rates may need to wade into restrictive territory," he said. "There's no unobservable threshold, or some higher bar to reach, for the rates to move above 2.50%."globalbankingandfinance

While Kazaks declined to say whether a rate increase could come as soon as October, he said the ECB could continue tightening in a "stepwise" manner. "Thanks to past decisions that have proven appropriate, so far we can afford to act without rush or jumpiness," he said.globalbankingandfinance

ECB President Christine Lagarde reinforced the hawkish tone over the weekend, saying inflation in the euro area "will stay elevated for some time," according to Bloomberg.globaltimes

Energy Costs and Wage Risks

Eurozone inflation stood at 3.3% in August, and the ECB expects it to average 3.6% in the final quarter of 2026. The Iran conflict has pushed oil prices above $100 per barrel, complicating the outlook for central banks worldwide. The Federal Reserve and the Bank of Japan are both expected to address rate policy later this week.devdiscourse+2

Kazaks warned that the eurozone economy is running near capacity, which could make it easier for higher fuel costs to feed through to wages and consumer prices. "The output gap is closing, which means that pass-through to prices and wages may strengthen," he said. "That is clearly an upside risk to inflation."globalbankingandfinance

Negotiated wages in the eurozone rose 2.44% year-on-year in the three months through June, slowing from 2.56% in the first quarter. The moderation offers some relief, but Kazaks cautioned that prolonged increases in everyday essentials like fuel and food could shift inflation out of what he called the "inattention area" for households and businesses.economictimes.indiatimes+1

A Difficult Balancing Act

The ECB faces a narrow path between containing inflation and avoiding excessive tightening that could weaken growth. Higher interest rates can restrain demand but cannot resolve the supply shock at the root of rising energy prices. With the Iran conflict adding persistent uncertainty to the energy outlook, Kazaks's remarks suggest the ECB is preparing markets for a prolonged period of monetary tightening — even at the risk of slower economic activity.globaltimes