Morgan Stanley's team of strategists has revised its outlook for European Central Bank monetary policy, no longer forecasting interest-rate reductions in 2026. The shift follows a sharp repricing of energy markets after a recent joint attack by the U.S. and Israel on Iran, which the analysts say has materially altered the inflation outlook for the euro area.
The strategists had previously anticipated two ECB easing moves in 2026, penciling in cuts at the central bank's June and September meetings. That view rested on expectations for a gradual recovery in economic activity across the currency union and inflation easing below the ECB's 2% target.
In a note published on Thursday, the Morgan Stanley team, which includes Jens Eisenschmidt and Jean-Francois Ouvrard, said developments in the Middle East have forced a reassessment.
"Given the recent increase in energy prices, euro area inflation will likely be back above the ECB's target for the remainder of this year," the analysts wrote.
Prices for crude oil and natural gas rose as hostilities escalated. Market participants have focused in particular on what the bank described as an emerging shipping bottleneck in the Strait of Hormuz. Tanker traffic has been building up on both sides of the narrow waterway, through which roughly a fifth of the world's crude oil and liquefied natural gas passes.
Morgan Stanley highlighted the vulnerability of Europe to potential disruptions in natural gas flows. The region is a major importer of liquefied natural gas transported via the Strait of Hormuz, and a drop in supply would likely force European governments to source fuel from alternative suppliers, at potentially higher cost, to meet demand for electricity generation and heating.
As an example of the market moves, the Dutch TTF front-month contract - the European benchmark for natural gas - was reported trading at 51.125 euros per megawatt hour, an increase of 4.8% from recent levels and up from roughly 31 euros per megawatt hour prior to the latest outbreak of violence in the Middle East.
The Morgan Stanley note makes clear that the bank's updated policy call is conditional. While the analysts expect inflation to remain above target for the remainder of the year, they say that a drop below 2% is possible next year only if energy markets normalize quickly.
They added that inflation could fall again below 2% next year, "but this is predicated on rapid energy market normalization."
Should the energy-price shock abate, the analysts said ECB rate reductions could return to the agenda - but moved out a full year from their prior timing. Under the revised scenario, the earliest cuts would occur in June and September of 2027. Until such time, Morgan Stanley expects the central bank to hold borrowing costs steady.
The bank also noted that although renewed hikes are unlikely under their revised outlook, the duration and severity of energy-price pressures remain the decisive factor: the "persistence of tensions on energy prices is key," the analysts concluded.
This reassessment by Morgan Stanley underscores how developments in energy markets and key shipping chokepoints can rapidly reshape central-bank policy expectations, particularly in an economy where fuel imports play a substantial role in consumer prices and utilities.