Iran-Israel conflict puts focus back on oil and gas, but unlikely to delay ECB rate cuts

The broadening of conflict in the Middle East could rattle global markets by pushing up energy costs, but won’t likely delay interest rate cuts from the European Central Bank

Financial markets face the new week fretting about geopolitics with much riding on whether Iran’s weekend strike on Israel triggers further rounds of retaliation

The broadening in the Middle East war to involve more conflict between Israel and Iran could rattle global markets this week by pushing up energy costs, but won’t likely delay interest rate cuts from the European Central Bank this summer.

Preliminary analyses of the economic fallout from the weekend drone attacks on Israel taken in relaliation by Iran for a deadly attack on its embassy in Damascus this month puts the focus back on global oil and gas markets, at a time when energy prices had been steadily rising again.

The price of global crude oil is likely to climb on Monday morning following the drone attacks, but whether any increases will lead to significantly higher forecourt prices remains to be seen, global chief economist Neil Shearing at Capital Economics said in a commentary on Sunday.

The risks to the global economy from a “potentially significantly more dangerous phase in troubles in the region” could lead to higher oil prices that “would complicate efforts to bring inflation back to target in advanced economies, but will only have a material impact on central bank decisions if higher energy prices bleed into core inflation”, Mr Shearing said.

“Energy markets remain the key transmission mechanism from regional tension/conflict to the rest of the world economy. Brent crude prices have already risen from $83 a barrel one month ago to over $90 a barrel in the past week, spurred in part by concerns about supplies and geo-political risks from conflict in the Middle East and Ukraine,” he said.

“As a broad rule of thumb, a 10% increase in oil prices adds 0.1% to 0.2%-pts to headline inflation in advanced economies. Accordingly, the rise in oil over the past month will add about 0.1% to headline inflation in these economies. This is unlikely to have a significant bearing on central bank policy decisions,” according to to the commentary.

“The key risks for the global economy are whether this now escalates into a broader regional conflict, and what the response is in energy markets,” the chief economist said.

Meanwhile, airlines were weighing an ever narrowing set of options to fly between Europe and Asia after grappling with airspace shutdowns.

Several Middle Eastern countries including Jordan, Iraq, and Lebanon temporarily closed their airspace as Iran launched drones and missiles.

The White House and European officials urged Israel to show restraint as they try to prevent a direct conflict with Iran, which could hit the global economy and send oil and gas prices higher. US president Joe Biden’s especially keen to avoid that in an election year.

Iran promised an attack against Israel after its embassy compound in Syria was hit by missiles on April 1 killing seven Iranian officers. 

Saturday night’s assault was a legitimate response, it said. Tehran said there would be no further attacks as long as Israel didn’t retaliate aggressively. It warned of “considerably more severe” strikes if Israel chose that option.

Stock markets in Israel, Saudi Arabia, and elsewhere in the Middle East fell on Sunday, but only slightly.

Financial markets will nonetheless face the new week fretting about geopolitics with much riding on whether Iran’s weekend strike on Israel triggers further rounds of retaliation.

With investors already rattled by sticky inflation and the prospect of higher-for-longer interest rates, the escalation of the Middle East crisis is set to inject fresh volatility when trading resumes. 

A spike in nerves may still be tempered by the flight to safety in markets on Friday in anticipation of a strike, Iran’s statement that “the matter can be deemed concluded” and a report that Mr Biden told Israeli prime minister Benjamin Netanyahu that the US won’t support an Israeli counterattack against Iran.

“Investors’ natural reaction is to look for safe-haven assets in moments like this,” said Patrick Armstrong, chief investment officer at Plurimi Wealth. “Reactions will be somewhat dependent on Israel’s response. If Israel does not escalate from here, it may provide an opportunity to buy risk assets at lower prices.”

• Additional reporting Bloomberg