Euro zone government bond yields remained near their highest levels in more than 15 years on Monday as investors worried that a prolonged Iran war could keep energy prices and inflation elevated.
Germany’s 10 year Bund yield held around 3.20%, close to its late July peak of 3.2118%, the highest level since May 2011.
Markets Price in ECB Rate Hike
Investors are increasingly preparing for tighter monetary policy as higher energy costs threaten to prolong inflation.
Money markets were pricing the European Central Bank’s deposit rate at 2.76% by March 2027, compared with the current 2.25%. They also implied a more than 90% probability of a rate increase in September.
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However, economists expect the ECB to remain cautious rather than embark on an extended tightening cycle.
“We see it as a maximum one hike from the ECB,” said Mohit Kumar, an economist at Jefferies, noting that oil prices remained below the ECB’s more severe scenarios.
Iran War Keeps Oil and Inflation in Focus
The bond market’s reaction reflects growing concern that the conflict could last longer than initially expected.
Iran called on Washington to accept defeat on Saturday, while U.S. President Donald Trump warned Americans to prepare for continued high fuel prices.
Higher oil prices can feed directly into consumer inflation while also increasing costs for businesses, making it more difficult for central banks to ease monetary policy.
Italy Germany Bond Spread Widens
The conflict is also affecting borrowing costs across the euro zone.
The yield spread between 10 year Italian government bonds and German Bunds stood at 77 basis points, compared with 63 basis points in February before the attack on Iran.
The spread reached 103.62 basis points in late March, its widest level since June 2025.
The rise in European bond yields reflects a broader market dilemma: the Iran war could simultaneously weaken economic growth and keep inflation elevated.
For the ECB, that creates a difficult policy environment. If energy prices remain high, cutting rates could risk prolonging inflation. But maintaining or raising rates for too long could further weaken an already fragile European economy.
The most important variable remains the duration of the conflict. A prolonged disruption to energy markets would put greater upward pressure on inflation expectations and government borrowing costs, while a rapid de-escalation could ease those pressures.
For now, investors appear to be pricing in higher-for-longer European interest rates rather than an immediate return to monetary easing.
With information from Reuters.
