The ongoing crisis in Iran presents a significant dilemma for central bankers globally, particularly concerning their quantitative tightening (QT) programs. The primary impact is expected to be on inflation and inflation expectations, with two-year euro inflation swaps already showing a notable jump. This situation could lead major central banks, including the Federal Reserve and the European Central Bank, to adopt a less dovish stance on interest rates, potentially reversing the previous outlook for a weaker US dollar.
Investors have already begun to slash their bets on Federal Reserve rate cuts as the Iran conflict has caused petrol prices to surge. This development aligns with concerns that higher oil prices, fueled by the disruption of shipping through the Strait of Hormuz, could reignite inflation. While some mitigating factors exist, such as an initial oversupply in oil markets and the US Strategic Petroleum Reserve, a prolonged closure of the Strait of Hormuz could see oil prices rise by $10 to $20 per barrel.
The US is in a stronger energy position now compared to the 1970s and 1980s, being the world's largest oil producer. However, the conflict's duration and ultimate outcome remain uncertain, with US President Trump indicating military operations could last a month to degrade Iran's capabilities. Initial Iranian reactions have included widespread attacks on regional targets, including US military bases and oil facilities in Saudi Arabia, the UAE, Bahrain, Kuwait, Jordan, and Qatar, further complicating the global economic outlook.
