Central banks worldwide are continuing to raise or signal increases in borrowing costs despite a recent interim peace deal between the US and Iran. This agreement, which includes a ceasefire and the reopening of the Strait of Hormuz, initially led to market relief and a drop in oil prices. However, policymakers are emphasizing that the economic damage caused by the conflict, particularly to energy infrastructure and stockpiles, means inflation will remain elevated well into next year. For instance, the Bank of England held rates steady but its chief economist continues to advocate a hike, and financial markets now expect a move by year-end.
The European Central Bank (ECB), which already raised rates last week, is cautioning against expectations of a rapid improvement, stating that higher energy costs are likely to persist as it will take time to restore production capacity and repair infrastructure. ECB Chief Economist Philip Lane noted that four months of elevated energy prices mean inflation will remain above 3% due to indirect effects on food, goods, and services. Similarly, while the initial relief from the Iran deal may mitigate some inflation fears, central bankers fear it will be short-lived and that the concept of "transitory" inflation is giving them a headache regarding future rate decisions.
The US Federal Reserve, under new Chair Kevin Warsh, also reinforced the message of continued tightening, with projections indicating a rate hike is firmly on the table. This is a significant shift from earlier investor expectations of US rate cuts in 2026; now, two increases are being priced in. Japan's central bank is also under pressure to hike rates further due to a sharp slide in the Japanese yen, which has pushed up long-term inflation expectations. The general consensus among central banks is that the structural issues and lingering effects of the conflict mean inflation will remain above target for an extended period, necessitating continued hawkish monetary policy.
