Iran war fallout: Shock-hit economy rattles policymakers
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Prominent economists have warned for years that the low-volatility era of the 2010s has given way to a more fractured era, defined by trade wars, real wars and recurring supply shocks that policymakers are poorly equipped to manage.
- The Iran war leaves little doubt that this analysis is correct.
Why it matters: The war is pushing up energy prices and rattling markets — something that central banks can't neutralize with an interest-rate tweak.
- If these types of disruptions persist through the 2020s, policymakers face harsher trade-offs, higher volatility and a global economy that's structurally less stable.
Driving the news: Fallout from the Iranian conflict is playing out in financial markets — the S&P 500 tumbling 2%, crude oil spiking 8%, and more — after President Trump signaled a potentially protracted war.
- "We're already substantially ahead of our time projections. But whatever the time is, it's OK," Trump said Monday, adding that the U.S. was willing to do "whatever it takes."
- Those comments came before reports of a potential blockade in the Strait of Hormuz, a critical passageway for tankers carrying about a fifth of the world's oil supply.
Flashback: It raises the risk for the type of supply disruption that has repeatedly been threatened by a slew of shocks over the past six years.
- It's more difficult for central bankers and fiscal policymakers to counter events that are sudden, external and unpredictable — a feature of a more "shock-prone economy" that European Central Bank president Christine Lagarde has warned about, including in a speech in 2023.
- "[W]e may be entering an age of shifts in economic relationships and breaks in established regularities. For policymakers with a stability mandate, this poses a significant challenge," Lagarde said in a speech at the annual gathering of central bankers in Jackson Hole, Wyoming.
- "In the pre-pandemic world, we typically thought of the economy as advancing along a steadily expanding path of potential output, with fluctuations mainly being driven by swings in private demand. But this may no longer be an appropriate model," Lagarde added.
The intrigue: The Iran war is colliding with a once-in-a-generation technological shift.
- A prolonged conflict would threaten energy supplies, potentially scrambling the very foundation on which the AI boom rests. No one knows how the forces will interact.
- "A renewed burst of inflation — akin to what we saw in 2022 and 2023 in the fallout from the Russia-Ukraine War — could upend global growth this time because of the dependence of the AI-based growth technologies [that] depend upon cheap energy and electricity," Thierry Wizman, a rates strategist at Macquarie Group, wrote in a client note.
