Israel-Iran conflict: market outcomes and impact on inflation
Oil prices surged in an initial response to Israel's missile attack on Iran and equity markets fell. Will higher energy prices persist, and could they be inflationary?
Profily autorov
Financial markets have responded to overnight hostility between Israel and Iran, in which Israel launched missiles targeting Iranian nuclear and military facilities and Iran retaliated with drone attacks.
The oil price initially rose 13% on the news but retraced approximately half that move within hours. No infrastructure relating to oil has been targeted.
Potential outcomes
Previous similar incidents in recent years have amounted to a limited exchange of missiles. Iran's response has typically been sufficient to demonstrate domestic strength without escalating tensions further.
Several Middle Eastern nations (including those which have already condemned the attacks, such as the UAE and Saudi) have previously intervened up to calm situations like this. Given its role in the oil market and the wider regional economy, Saudi wields considerable influence.
Israel has stated that the operation will continue for "as many days" as it takes to remove the Iranian threat. But hostilities could rapidly settle if Middle Eastern countries and – to some extent – the US step in.
What does it mean for oil?
For now, oil production facilities within Iran and wider region are completely unaffected.
The likelihood of Iran taking any action in the Strait of Hormuz, the often-touted disaster scenario for oil markets, appears very remote. Such action would impact flows for the other Middle East nations who are aiming to mediate the situation, while inflicting little harm on Israel.
Israel could apply pressure by striking Iranian oil infrastructure and disrupting Iranian oil supply (which makes up 3.5% of global supply). However, Israel's stated aim has been to impede Iran's nuclear program, consistent with the fact that all strikes so far have targeted Iranian nuclear and military facilities. As such, disruption to oil production may well be limited.
Other dynamics in the market continue to point to a global market oil surplus continuing to build in the coming months.
Inflation outlook
Although oil prices are sensitive to this type of conflict, as in previous similar events the initial price rise moderated in the following hours. If Brent Crude settled at $75 per barrel, it would imply that G7 energy inflation would be a little above 5% over the next year.
Would this lead to broader inflationary pressure? Probably not.
Our work from late last year suggests that every 10% rise in oil prices adds just 0.1% to core inflation.
Profily autorov
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