Middle East conflict puts central banks on edge as fears of oil crisis rise

A growing conflict in the Middle East has posed a new test for global central banks, as fears of an oil shock and new inflation risks complicate policymakers’ calculations to shore up growth.

Crude oil prices soared on Monday after the United States and Israel launched attacks on Iran over the weekend, killing Iranian Supreme Leader Ali Hosseini Khamenei. Tehran responded with missile attacks against several Gulf countries.

Tanker traffic through the Strait of Hormuz, the world’s most critical bottleneck for oil shipments, has effectively stalled as the threat of attacks from Iran deterred ships from passing through the waterway.

Brent crude oil prices extended four days of gains, rising 1.6% to $82.76 a barrel on Wednesday, hovering near the highest level since January 2025. US West Texas Intermediate Crude oil prices also rose for the third day in a row to $75.48.

Higher energy prices would ultimately trickle down to consumer and producer prices, particularly in economies that rely heavily on oil imports from the Middle East, leaving central banks scrambling to reassess the path of their interest rates.

“The current conflict with Iran solidifies the case for many central banks to keep rates stable for now,” a team of economists at Nomura said in a note on Sunday.

As rising tensions weigh on economic activity, policymakers are juggling the delicate task of balancing inflationary risk with slowing growth.

The European Central Bank is caught in what ING economists called a “genuine dilemma” as an oil shock could raise already sticky inflation while its growth prospects weaken under the pressure of higher US tariffs. They added that “to see a rate hike, the eurozone economy would have to show clear resilience.”

Europe imports almost all of its oil and a significant portion of its liquefied natural gas, raising the risk of a double energy and trade crisis, the bank said.

ECB board member Pierre Wunsch said this week that officials would avoid reacting hastily to any move in energy prices.

“If this lasts longer, if the increase in energy prices is greater, then we will have to test our models and see what happens,” Wunsch said.

Former Treasury Secretary Janet Yellen said the conflict could hurt U.S. economic growth and fuel inflationary pressures, preventing the Federal Reserve from cutting rates.

“The recent situation with Iran leaves the Federal Reserve even more on hold, more reluctant to cut rates than before this happened,” Yellen said Monday.

US inflation stood at 2.4% in January, above the Federal Reserve’s 2% target. Yellen warned that President Donald Trump’s tariffs could drive annual inflation to at least 3%.

The latest flare-up comes after Trump’s seizure of oil-rich Venezuela earlier this year and his threat to take control of Greenland, another strategically important energy reserve.

Brent crude is up 36% so far this year, according to LSEG data, while WTI futures are up 32% through Wednesday.

The global energy market is grappling with a worst-case scenario: A prolonged disruption in the Strait could push Brent oil prices above $100 per barrel and European natural gas prices above €60 ($70.17) per megawatt hour, according to Bank of America.

Asian economies would be particularly exposed. Most of the crude oil shipped through the Strait of Hormuz flows to China, India, Japan and South Korea, according to the U.S. Energy Information Administration.

Under the assumption of a six-week closure of the Strait of Hormuz and a jump in oil prices from $70 to $85 a barrel, regional inflation in Asia could rise about 0.7 percentage points, according to Goldman Sachs. The Philippines and Thailand are expected to be the most vulnerable, while China could see a “more modest increase.”

Sustained increases in oil prices may prompt Asian central banks, such as those in the Philippines and Indonesia, to pause rate cuts, while authorities in India and South Korea will likely keep rates steady for longer, said Michael Wan, senior currency analyst at MUFG Bank.

BMI, a unit of Fitch Solutions, estimates the conflict will add between seven and 27 basis points to headline consumer inflation across Asia, with the impact most pronounced in Thailand, South Korea and Singapore due to a greater weighting of energy in their inflation calculations.

“For a 10% oil shock, the increase in inflation is small enough that most would probably take it into account. (But) the calculus changes materially with increases of $20 to $30 per barrel, where headline CPI is hit two or three times as much and second-round effects become harder to ignore,” the research firm said.

Rate increases remain largely off the table for now, unless rising oil prices are sustained and spread to food and other commodities due to higher transportation and freight costs, filtering into higher core inflation, he said.

Nomura expects Malaysia, which it identified as a “relative beneficiary” as a net energy exporter, as well as Australia and Singapore, to adjust interest rates. The bank also lowered its expectations for a rate hike by the Philippine central bank.

“The rise in oil prices increases our conviction that Bank Negara Malaysia will raise rates (and) the risk that the Bangko Sentral ng Pilipinas may remain on hold, versus the previous basis of another 25 basis point cut in April,” Nomura said.

The bank expects a modest 0.01 percentage point impact from rising oil prices on Singapore’s GDP growth.

Indonesia and Singapore said Monday they are closely monitoring financial markets. Bank Indonesia said it would act to keep the rupiah in line with economic fundamentals, while the Monetary Authority of Singapore said it was assessing the impact of the conflict on the domestic economy and financial system.

Fiscal stimulus and subsidies could cushion some of the inflationary impact and relatively benign price pressures heading into 2026, providing a relatively comfortable starting point.

“We expect Asia to use fiscal policy as a first line of defense to protect consumers,” Nomura economists said. Possible measures include price controls, higher subsidies, fuel excise tax cuts and lower import tariffs on crude oil and refined products.

But the subsidies could add new strain to governments’ already tight fiscal budget deficits, Rob Subbaraman, head of global macroeconomic research at Nomura, said on CNBC’s “Squawk Box Asia” on Tuesday.

“So what ‘negative’ do you want to have: higher inflation or worse fiscal? These are political decisions that governments have to make.”