BRUSSELS, Oct. 5 (Xinhua) -- Costly energy, rising inflation and higher borrowing costs together threaten to weaken Europe's economic recovery by squeezing household spending and business investment.

The euro area economy has proved more resilient than expected, prompting the European Central Bank (ECB) to raise its 2026 and 2027 growth forecasts in September.

Emergency fuel releases may ease the immediate supply strain, but reliance on imports leaves Europe exposed to further disruptions. The ECB must balance inflation risks against weakening demand, while governments face pressure from rising costs as they seek to cushion the energy shock.

FUEL RELIEF HAS LIMITS

A coordinated release of emergency reserves may ease Europe's diesel shortage, but declining domestic refining capacity leaves the region dependent on imports.

On Oct. 2, leaders of the Group of Seven (G7) agreed to release 100 million barrels of oil and diesel over four months through the International Energy Agency, including substantial diesel supplies within the first 20 days. They also pledged to avoid export restrictions among member countries and called for coordinated refinery maintenance and higher utilization rates where feasible.

The agreement followed U.S. pressure on European governments to release emergency diesel stocks. Later that day, U.S. President Donald Trump said the United States would not impose a diesel export ban, easing concerns about a potential disruption to European supplies.

Releasing stocks may buy time, but can not solve insufficient production capacity. FuelsEurope, an association representing European fuel manufacturers, said that 35 European refineries had closed since 2009, reducing capacity by 20 percent. It said Europe's dependence on imported diesel and jet fuel could deepen and extend to other products without corrective action.

Additional crude supplies cannot fully relieve a diesel shortage if refineries lack the capacity to process them. The G7's focus on refinery operations alongside reserve releases reflects that problem.

Gas supplies pose another risk ahead of winter. Joachim Nagel, president of Germany's central bank, the Deutsche Bundesbank, said on Monday that low storage levels may force Europe to purchase substantially larger volumes during the heating season, leaving gas prices vulnerable.

High energy costs squeeze business profits and may prompt companies to raise prices. Higher fuel and heating bills also reduce households' spending power, weakening demand for other goods and services.

Philip R. Lane, a member of the ECB's executive board, said companies may have to pay higher energy and input bills before they can adjust production or selling prices, increasing their need for short-term financing.

INFLATION CREATES A POLICY DILEMMA

Annual inflation in the euro area rose to an estimated 3.8 percent in September from 3.2 percent in August, according to Eurostat's flash estimate. Energy prices rose 18.8 percent from a year earlier, up from 14.3 percent in August.

Underlying price pressures remained more contained. Inflation excluding energy, food, alcohol and tobacco edged up to 2.5 percent from 2.4 percent. Services inflation rose to 3.2 percent, while inflation in non-energy industrial goods eased to 1.1 percent.

The figures highlight the ECB's challenge: determining whether the energy shock will spread to other prices and wages or weaken demand enough to curb inflation.

"There are so far no clear signs that inflation has fed through to price and wage setting," Nagel said. Longer-term inflation expectations remained consistent with the ECB's 2 percent target, he added.

A prolonged shock, however, could encourage companies to pass on costs and workers to seek compensation for lost purchasing power.

The ECB raised its key interest rates by 25 basis points in both June and September, bringing its deposit facility rate to 2.5 percent. It said further rate decisions will depend on incoming data and assessments at each meeting.

On Monday, Lane said higher energy costs could weaken activity and reduce household incomes and business profits. Those effects, together with tighter financial conditions, could limit the monetary policy adjustment needed to bring inflation back to target.

DEBT MARKETS ADD PRESSURE

Concerns about government finances are adding to borrowing costs.

France remains a focus of investor concern. The spread between French and German 10-year government bond yields widened by about 5 basis points to 145.5 basis points in Monday early trading. Investors questioned France's ability to rein in its budget deficit amid political uncertainty ahead of the 2027 presidential election.

Borrowing costs can rise even without another ECB rate increase. Investors may demand greater compensation for fiscal risk, while higher government bond yields can feed into financing costs across the economy.

Global developments also matter. Lane said the worldwide artificial intelligence investment boom was plausibly contributing to higher long-term interest rates. "Especially since the scale of the European AI boom is not of the same order as the global AI boom, the increase in long-term interest rates constitutes a material tightening of financial conditions for the euro area," he said.

Governments face a difficult trade-off. Subsidies can cushion households and companies against energy costs, but financing them through additional borrowing can intensify investors' concerns about public finances.

Europe's resilience will depend partly on whether fuel supplies improve before expensive energy and credit force businesses to cut investment and households to curb spending. Emergency reserves can ease the immediate squeeze, but they cannot resolve the import dependence and capacity constraints that leave the region exposed to further shocks. ■

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