Long-lasting consequences of the Middle East crisis

Oil prices are easing, in contrast to major U.S. indices like the S&P 500 and Nasdaq, on hopes that the recent breakthrough between the United States and Iran is more than just rhetoric and that Friday’s memorandum of understanding will indeed be signed, paving the way for a broader agreement and a full peace deal.

But even if diplomacy succeeds, the economic damage is already done, particularly in terms of inflation, forcing central banks to act.

Starting with the European Central Bank, it raised its key rate by 25 basis points from 2.15% to 2.40% to counter inflation driven by developments in the Middle East. Looking ahead, with inflation expected to average 3% in 2026 and core inflation at 2.5%, and a return to target not expected before 2028, the ECB still leaves the door open for further rate hikes later this year.

The Bank of Japan also lifted its short-term policy rate by 25 basis points to 1.0%, the highest since 1995, citing persistent inflation risks. Policymakers note that underlying inflation is moving closer to the 2% target while financial conditions remain supportive, effectively signaling that the tightening cycle is far from over.

The Reserve Bank of Australia, meanwhile, left its cash rate unchanged at 4.35% after three consecutive hikes, as inflation accelerated in the second half of 2025.

As for today’s Federal Reserve meeting, a simple change in leadership is unlikely to signal a shift in policy, especially with consumer prices rising 4.2% year-over-year in May, up from 3.8% in April and marking a third consecutive monthly acceleration.

That said, Kevin Warsh’s press conference could still be worth watching, as he may provide details on potential balance sheet reduction plans and, more importantly, concrete steps to bring inflation back under control.

At the same time, the FOMC is not a one-man show. The Chair sets the tone, but policy is decided by committee. So even if Warsh hints at rate cuts later this year, it means little without broader support.

There’s also a risk in signaling an easier policy before the data justify it. Markets could start to question whether the Fed is prioritizing political pressure over its inflation mandate. Once investors doubt the Fed’s independence, confidence in U.S. dollar assets can erode quickly.