The war that was meant to last two to three weeks enters its third month today and while there is a rolling, open-ended ceasefire between the US and Iran, the risk of it collapsing remains high.
Amid this uncertain backdrop, the world’s leading central banks are expected to hold fire on inflation-busting interest rate hikes when they meet this week.
The European Central Bank, US Federal Reserve, Bank of Japan, Bank of Canada and Bank of England are among the institutions that will set rates this week under the shadow of war and the second big energy price shock in five years.
Central banks usually reduce rates when the economy slows to boost borrowing and spending but with inflation already elevated and now rising in the face of higher oil prices, any immediate easing could amplify this trend.
Policymakers seem to be adopting a wait-and-see strategy to assess if the current energy-driven inflation beds in.
In a severe scenario, where energy prices remain elevated for an extended period, the ECB warned last month headline inflation across the bloc could climb to 4.4 per cent.
But ECB chief Christine Lagarde says we’re not at the severe scenario stage just yet.
In its latest outlook, the International Monetary Fund (IMF) lowered its eurozone growth forecast to a meagre 1.1 per cent, citing the war in Iran.
It also warned inflation expectations, a key driver of actual inflation, could become unmoored if the Strait of Hormuz remains closed to shipping.
“Looking ahead, with central bank meetings for every G7 country this week – alongside 44 per cent of the S&P500 reporting by market capitalisation, including five of the magnificent seven – it is shaping up to be a blockbuster week, even before factoring in ongoing Iranian war news flow," Deutsche Bank said in a research note on Monday.
“All [interest rates] are expected to remain on hold, but the key question will be how each central bank’s reaction function is shaped by the conflict and the associated stagflation risks,” the bank said.
These risks can be avoided if there’s a speedy end to the war, not that there’s any indication of that just yet.
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