Stagflation threat returns as Israel-Iran conflict sparks fears oil price could spike above $120
There are growing fears of another energy driven inflationary shock the economy, as oil and gas prices continue to climb in response to Israel's conflict with Iran.
Oil prices were more subdued on Monday, trading at $73.52 a barrel, after trading as $78 in the wake of Israel's initial strikes on Iranian target and the subsequent retaliation from Tehran that threatens to destabilise energy markets in the region.
Markets fear the conflict hurt energy supply, particularly if there any disruption to the Strait of Hormuz, a key transit chokepoint responsible for a third of global seaborne oil and 20 per cent of liquified natural gas.
If the straight between the Persian Gulf and the Gulf of Oman is compromised, oil prices could be driven 'upwards' of $120, according to analysts at Lazard Geopolitical Advisory.
'Even in the absence of a Strait closure, oil markets will see continued volatility as the risk of a disruption evolves,' they said.
Brent crude prices are still down by around 11 per cent over the last year amid increased OPEC+ supplies and weaker global economic growth.
And oil prices are substantially below levels seen after Russia's invasion of Ukraine led to a global inflationary spiral.
Gilles Moëc, AXA group chief economist, said lower oil prices 'have been one of the very few tailwinds benefiting the world economy recently', but escalating conflict in the Middle East puts this at threat.
He added: 'There are two parameters which we will closely monitor to assess the risk of a persistent oil shock: how Gulf states – and particularly Saudi Arabia – position themselves on oil supply, and the likelihood of a disruption in oil flows through the Strait of Hormuz.'
The UK imports much of its energy. British businesses rely on imported oil for transportation and energy, so higher oil prices can be a major driver of inflationary pressure.
Chancellor Rachel Reeves on Sunday admitted that higher energy prices are a 'cause for concern'.
Thomas Pugh, economist at RSM UK, said: 'A rough rule of thumb is that a $10/bl rise in the price of a barrel of oil eventually adds 0.1 per cent to inflation as higher fuel prices make their way through the system.
'Natural gas prices have also risen [in response to the Israel-Iran conflict], but by a slightly smaller amount.
'The most immediate impact will be on prices at the pump. A $10/bl rise in oil prices will probably result in a 5p increase in pump prices over the next couple of months.'
Higher oil prices will also give the Bank of England pause for thought on the outlook for interest rates as it has to balance rising inflation with deteriorating economic output.
The bank is set to keep base rate on hold at 4.25 per cent later this week but investors have been pricing up to two more cuts of 25 basis point each this year, taking the rate to 4.75 per cent.
Pugh added: 'The big risk is an escalation that disrupts energy supplies from the region, which sends energy prices much higher.
'In that case, a rerun of the 2022 energy crisis would be possible with higher interest rates and another bout of stagnation or even recession.'
The potential impact of further escalation, according to Lazard Geopolitical Advisory.
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On Sunday, analysts at Peel Hunt said they viewed an Iranian attempt to close the Strait of Hormuz as a 'tail risk' because of the 'far-reaching collateral damage' it would cause, particularly to China – which heavily depends on oil shipped from the Persian Gulf. They warned: 'It risks an all-out war with the most powerful country in the world, the US, and badly antagonising the second most powerful, China.' In a separate note to clients, Eurasia Group analysts said they did not expect Iran to fully close the strait while its own oil exports continued, but instead to increase 'harassment of tanker traffic'. Ships passing through the Strait of Hormuz have already experienced disruption in the past week as a result of GPS jamming in the area by Iran. Some 23pc of vessels in the area reported experiencing jamming on Sunday, or 1,600 out of around 7,000, according to maritime data provider Windward. That represented an increase of more than 60pc compared to Friday. Ami Daniel, Windward's chief executive, said the disruption was pushing up shipping and insurance rates, while shipping companies were also transiting the strait more slowly and cautiously - or cancelling voyages altogether. He added: 'We're going to see a slowdown in exports from the gulf, at the very least.'
