Iran War Disrupts Fed's Plans, Will the "Status Quo" Ghost Return to Wall Street?

Reuters Finance News — The two-day Federal Reserve policy meeting starting this Wednesday (March 18) will be held amid a global energy crisis and geopolitical conflicts. Iran’s war has caused one-fifth of the world’s oil supplies to be stranded, severely disrupting officials’ assessments of the economic outlook.

They need to evaluate whether the conflict will disrupt economic growth, lead to prolonged high inflation, or create a complex stagflation scenario of “economic slowdown + rising prices.” Post-pandemic supply shocks have prevented the Fed from achieving its 2% inflation target for five consecutive years, and this week they are likely to adopt a cautious or even hawkish stance.

Oil prices surge nearly 50% in two weeks, inflation may rise further

Current inflation is about one percentage point above the target, with further risks of rising — oil prices have surged nearly 50% in two weeks.

Deutsche Bank economists note that issues once hard to imagine are now sparking intense debate: Will the Fed raise interest rates in 2026? Although some policymakers considered the possibility of rate hikes at the last meeting, unless inflation expectations clearly spiral out of control, the threshold for raising rates remains very high.

Energy shocks have propagated from gasoline and jet fuel to transportation, chemicals, manufacturing, and agriculture, pushing up core inflation and living costs.

Deutsche Bank: Rate hikes in 2026 possible but with high thresholds

Deutsche Bank states that sustained high oil prices may force the Fed to reassess its policy path. Discussions of rate hikes in 2026 have shifted from “unimaginable” to “possible,” but actual triggers are stringent: inflation expectations must be clearly out of control, wage-price spirals must occur, and long-term supply shocks must evolve into structural inflation.

Currently, markets are still betting on a “higher for longer” scenario, with rate cut expectations significantly pushed back. Next week’s meeting has a 99.4% chance of holding rates steady.

Gas prices up nearly 25% in two weeks, Energy Secretary predicts end in a few weeks

U.S. retail gasoline prices have risen nearly 25% in two weeks, reaching the highest level since October 2023. Energy Secretary Chris Wray predicts the conflict will end within a few weeks, and prices will decline after supply rebounds.

However, Trump has not clearly outlined an end goal or timetable for ending the war, and Fed officials still need to submit new economic forecasts to make the best judgment. Uncertainty surrounding the conflict makes forecasts very difficult, and markets lack confidence that it will end in a few weeks.

Scenario analysis dominates: brief baseline vs. long-term confrontation

Analysts point out that the situation is highly volatile, with the U.S. now involved in the conflict, and a significant portion of global oil transportation disrupted.

Rather than making precise predictions, the Fed is discussing different scenarios: the baseline scenario involves a short conflict with rapid oil price decline; a disruptive scenario involves prolonged confrontation, ongoing supply disruptions, and worsening inflation and growth.

Research director at Société Générale states that as the conflict continues, the economic outlook has become more uncertain, with inflation and labor market conditions making it difficult for the Fed to balance its dual mandates (price stability and maximum employment).

Expected to hold steady, using December 2022 forecast of only one rate cut

The Fed is expected to keep rates unchanged at this week’s meeting. Given the high uncertainty, the simplest approach may be to stick with the December 2022 forecast — only one rate cut in 2026.

After experiencing shocks from the pandemic, soaring inflation, rapid rate hikes, and policy adjustments under Trump, whether the energy crisis will be the “last straw” that breaks the economy remains to be seen. Market expectations for rate cuts have been significantly pushed back, with a 57.3% chance of holding steady in June.

Energy crisis increasingly seen as the last straw risk

The energy crisis is now the biggest source of uncertainty for the Fed. Sustained high oil prices will raise inflation expectations, limit room for rate cuts, and suppress consumption and investment, amplifying the risk of economic slowdown.

If the conflict becomes prolonged, the probability of stagflation rises sharply. The Fed will face a tough balancing act between stubborn inflation and weak growth, and any hawkish shift could tighten financial conditions further.

Investors should watch for changes in this week’s statement and dot plots, and pay attention to officials’ assessments of the energy shock’s persistence. Short-term volatility is high, and medium- to long-term outlook depends on the conflict’s course and supply recovery speed.

Editor’s summary

Iran’s war disrupts Fed policy meetings, with officials facing dual challenges of inflation and growth. Oil prices surged nearly 50% in two weeks, with inflation possibly rising further. Deutsche Bank suggests the possibility of rate hikes in 2026. Gas prices rose nearly 25% in two weeks, and the energy secretary predicts an end in a few weeks, but Trump has not set clear goals or timelines.

The Fed is expected to keep rates steady, using December 2022 forecasts. The current situation is highly volatile, with scenario analysis dominating: brief baseline vs. long-term confrontation. The energy crisis could become the “last straw,” increasing stagflation risks. Investors should monitor Fed statements, dot plots, and officials’ assessments of the energy shock, as any hawkish signals could trigger sharp adjustments.

(Editors: Wang Zhiqiang HF013)

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