The U. S.-Israeli military actions against Iran are expected to increase inflation and negatively affect Europe’s already slow economic growth. The attacks have disrupted shipping in the Gulf, a crucial source of fuel for Europe, resulting in an immediate rise in energy prices on financial markets. This may prompt the European Central Bank (ECB) and the Bank of England to rethink interest rate decisions, potentially delaying further rate cuts until the situation stabilizes.
The Strait of Hormuz is a vital passage for exports from Gulf states, including oil, gas, and chemicals. Approximately 20% of global oil passes through this strait, which is significant for European countries that have increased reliance on these imports following their move away from Russian energy due to the Ukraine conflict. Countries such as Britain, Italy, Belgium, and Poland depend heavily on liquefied natural gas (LNG) that routes through the Strait of Hormuz.
The ongoing conflict has led to over 200 vessels, including oil and gas tankers, halting around the Strait of Hormuz, which has pushed prices higher. Oil prices surged nearly 8% to around $78 a barrel, while natural gas prices rose by 19%. The ECB’s December assessment predicted gas at around 29.6 euros per megawatt-hour (MWh) and crude at $62.5, but it may need to revise these estimates upward due to the recent price spikes. The ECB is expected to release new macroeconomic projections soon, but it may provide different scenarios similar to its previous approach during the Russia-Ukraine crisis.
Beyond energy, the Iran conflict has also affected the flow of commercial goods between Europe and Asia, particularly through the Suez Canal. Following renewed conflict in the region, shipping companies are opting to reroute vessels around Africa, which is likely to increase freight rates and the costs of imported goods.
The ECB’s analysis suggests that the impact of rising oil prices is more significant on inflation than on growth. A permanent 14% increase in oil and gas prices is projected to lower growth by just 0.1% while raising inflation by up to 0.5%. Economic growth for the eurozone and the UK is anticipated to be modest this year at around 1.2% and 1% respectively, compared to higher growth expected in the U. S. The growth setback from the current situation is considered minor compared to the economic impacts seen in 2022 due to the Ukraine conflict. Also, a strong euro could help mitigate the effects since energy prices are typically dollar-based.
As for the central banks’ responses, there has been a decrease in expectations for the Bank of England to cut rates soon, while the ECB is likely to maintain steady rates for the rest of the year. The ECB generally does not react to short-term market volatility or temporary energy price spikes. Analysts suggest that the effects on inflation and growth depend heavily on the duration and expansion of the conflict. While a short conflict may have minimal impacts, a prolonged situation could potentially elevate inflation and reduce growth rates in the eurozone, though current inflation levels are below target, making significant deviations less concerning for the ECB. Overall, market expectations for long-term inflation remain stable, and no interest rate changes are anticipated in the immediate future.
With information from Reuters
