After three and a half months, the stalemate in the Arabian Gulf following the strikes on Iran appears to be nearing an end. Oil and gas prices have fallen, as have market interest rates and gilt yields. That is an unsurprising response to the news, although the scale of the move has been fairly muted, suggesting that concern and caution remain; understandable, given how these negotiations have played out. Even so, a return to pre-war normality is important, given the potential economic damage from higher inflation, weaker confidence and tighter monetary policy expectations. But is this likely?
Brent crude has fallen 15% since its most recent peak on 3rd June. That decline was already underway before the ceasefire announcement, as signs emerged that both sides wanted a satisfactory end to the confrontation. However, the price is still around 18% higher than on 27th February, the last UK trading day before the US and Israel began air strikes. Wholesale gas prices tell a similar story.
Given the total blockage of the Strait, you might have expected oil prices to be higher. However, both oil and gas have traded well below the peaks seen in the first month of the conflict. This may have reflected the market’s belief that the war would be temporary, or that oil flows from other areas helped as the world adapted. The question now is whether oil prices can fall back into or lower than the pre-war 2025 range of $60-65pb.
That depends partly on the damage done to oil infrastructure and the ability to restart production at levels allowed by free passage through the Strait. It also depends on whether governments and companies want to refill strategic reserves. The US Strategic Petroleum Reserve is thought to be at its lowest level since the early 1980s, following releases by Presidents Biden and Trump. The Trump release was part of the IEA-member drawdown of 400 million barrels to combat oil supply issues in March. Non-IEA member China also reportedly drew on its substantial reserves in April and May. This helped limit the rise in oil prices, but rebuilding reserves to pre-war levels could keep prices higher than they would otherwise have been.
The impact on wholesale gas prices from infrastructure damage may be more significant. Qatar’s Ras Laffan LNG plant was reported to have been damaged in an Iranian strike, reducing production output by an estimated 17%, with repairs expected to take three to five years. As the facility itself supplies 20% of global LNG, the damage could reduce global supply by between 3% and 4%. The ongoing impact therefore depends on whether other key players, such as Australia and the US, can make up the shortfall, especially as the northern hemisphere heads into winter.
So far, we have focused on energy, but other commodities also pass through the Strait. A recovery in supply should start to ease concerns about shortages and bring prices down over time as supply chains normalise.
The return to normality, however, depends on free passage through the Strait not being contested by Iran. While the US statement points to free passage, Iranian sources appear to be suggesting some retained control, including fees. US Vice-President Vance has also tempered expectations of toll-free passage. The overall impact on prices may not be especially large, certainly not as significant as the resumption of passage through the Strait itself, but friction in any system, in this case higher shipping costs, tends to drive higher inflation.
So what does this mean for economic growth, inflation and monetary policy? Globally, a fall in energy prices should limit an inflationary surge and possible second-round effects, reduce the risk of a global recession and keep interest rates lower than they would be under a more prolonged conflict scenario. While we can all breathe a sigh of relief over the possible avoidance of near-term worst-case scenarios, the path back to pre-war energy and fuel prices may be longer than we’d like.
As noted above, oil and gas demand is likely to be boosted by the need to refill strategic reserves, while it will take time to clear out the Strait (ships and mines) and get energy commodity production up and running again. Geo-political tensions are unlikely to fade quickly; let’s not forget, the memorandum of understanding between Iran and the US is only the start of peace negotiations. Forgive me for feeling somewhat sceptical.
In terms of monetary policy, each region and country has its own specific issues shaping the outlook. The ECB increased policy rates last week as it sought to head off the medium-term inflationary impact of the conflict. We will never know whether a US-Iran agreement a week earlier would have influenced policymakers, but with rates already low and inflation rising to 3%, the inflation-conscious ECB may well have acted anyway. Markets still expect another hike later this year, although they have scaled back expectations of a more immediate move in July, with the chance of a rate hike falling to 17% from 37% on Friday.
US CPI inflation has risen to 4.2% on the back of higher gasoline prices, but the core rate is also rising and now stands at 2.9%, suggesting that energy prices may not be the only factor pushing the measure higher. The US economy has remained relatively resilient amid the AI-infrastructure build-out, which is also likely inflationary, and the jobs market does not appear to have loosened significantly. Markets had been pricing in a rate hike towards the end of the year, despite the wishes of the new Chair and the President, but a prolonged hold may now be more likely.
The agreement may also have headed off a developing fight between hawks and doves on the Bank of England’s MPC. With the Committee more or less evenly balanced, it was easy to see growing concern pushing the floating voter, Governor Andrew Bailey, towards the more hawkish side if the conflict had persisted. That risk was particularly clear given rising household inflation expectations, as shown in the recent BoE IPSOS survey, and an expected rise in CPI inflation to around 4% in July. The US/Iran agreement reduces the pressure for earlier tightening, which, given the state of the economy and labour market, we argued was largely unnecessary in any case.
Global bond yields have fallen as monetary policy expectations have eased, but the move has been limited. That reflects the likelihood that energy commodity prices will take time to return to pre-war levels, and that monetary policy will remain tighter than expected before the war because of the immediate and short-term inflation impact. It may also reflect some healthy scepticism, based on the negotiations so far, about the details and durability of the eventual peace deal, which could keep already elevated term premia at high levels. This latter point is directly applicable to the UK, with near-term fiscal and political uncertainty arising from the upcoming Makersfield By-Election resulting in a possible leadership challenge.
Despite the welcome news, then, the outlook remains clouded for now.
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16/06/2026
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