Oil prices and the Middle East conflict: the economic shock investors should watch

A conflict with global macro implications

The conflict that erupted in the Middle East over the weekend carries serious humanitarian consequences and significant risks for oil prices and the global economy. The Strait of Hormuz remains a critical chokepoint for the transport of global energy: 20% of globally traded oil and 25% of liquid natural gas (LNG) pass through this narrow passage. The current conflict represents an oil shock – a phenomenon we have seen before in varying forms.

The macro consequences of any oil shock depend largely on its scale and duration: a large, sustained rise in oil prices is far more damaging than a small, short-lived spike. To illustrate these dynamics, Simply put modelled several scenarios, assessing how different magnitudes of oil price shocks could influence key variables such as growth, inflation, interest rates and the US dollar. Our aim is to help investors prepare for a range of outcomes as oil remains a central force in global markets.

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How big would the economic impact be?

Markets are likely to focus on how the conflict affects oil production and transport. Any loss of supply or disruption to transit routes could push prices higher through scarcity and higher transport costs, raising  production and living costs worldwide. The obvious consequences: slower growth and higher inflation. If the shock turns stagflationary, the market implications become far more meaningful.

The key question is: what scale of oil shock would materially affect broader markets? Figure 1 shows the projected macro impact under different scenarios. Oil shocks are not linear: doubling the shock does not double the economic consequences – instead, the effects accelerate as the shock grows. Simulations from our econometric model¹ suggest:

• A 10% oil price rise would reduce US GDP by about 25 bps while lifting US inflation by up to 40 bps. The Federal Reserve would likely maintain its current, status quo stance because the inflation consequences would outweigh the modest drag on growth. For markets, this scenario would be manageable in the medium term, and any dips would likely be bought quickly
   
• A 50% oil price increase – taking WTI to around USD 100 per barrel – would have a more pronounced effect, cutting medium-term GDP by roughly 2% and lifting 2026 inflation forecasts by 2%. This could trigger a more meaningful stagflationary shock. Central banks might hesitate to tighten policy further, or face even pressure to cut in response to weakening demand. Even so, given expected US real GDP growth of 2.5% this year, this shock would still fall short of inducing a US recession – a crucial point for markets
   
• The unlikely scenario of oil prices gaining 100% – towards USD 130 bbl – would inflict far more severe damage on the global economy.
   

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Overall, a moderate shock would likely have a modest and temporary impact on earnings and on the performance of cyclical assets. Once volatility settles, many investors may view the dislocation as an entry point rather than a reason to deleverage, provided oil price increases remain within the 10-50% range. Larger shocks would be far more destructive. 

So, what would this mean for rates?

FIG 1. Simulated impact of various oil price rises on US GDP and inflation over time²

Rates: why scale matters most

Our analysis shows that the size of the oil price increase determines whether we see a brief surge in inflation or broader demand destruction. Applying the same framework to short- and long-term rates in Figure 2 makes this distinction clear:

• A 10% oil price rise would imply less than a 25 bps move higher in rates, potentially in a parallel shift. This would not disrupt the recent bullish tone in global markets; it would simply reflect a modest repricing of the bond risk premium due to slightly higher inflation expectations
   
• A larger shock, however, would create a clear divergence between the short and long ends of the curve. As Figure 2 shows, rates would rise initially, but as demand destruction sets in, the US yield curve tends to bull steepen. Such episodes typically coincide with weaker performance in cyclical assets. Still, if demand destruction stops short of causing an outright recession, the curve shift should remain temporary and dip buyers would eventually return.

Once again, the scale of the shock governs whether markets face a short-lived stagflationary repricing or a deeper, more persistent hit to demand. 

So, where does this leave the US dollar?

FIG 2. Simulated impact of various oil price shocks on Fed rates and 10-year rates over time³

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Could the US dollar act as portfolio protection?

Figure 3 applies the same scenario analysis to the trade-weighted US dollar. In the short run, inflation effects outweigh demand destruction, producing an initial bearish impulse for the dollar once the shock materialises. Yet on the day of the recent shock, the dollar strengthened – highlighting an important difference between today’s environment and the historical data used in the econometric analysis: US inflation is already largely priced into the term structure of the US yield curve and the dollar. It will take more than a 10% rise in oil prices to offset this. The key points are:

• Short run: over the next six months following a modest shock, higher US rates typically support the dollar
   
• Longer run: when oil prices rise by more than 50% over a six-month period, the dollar tends to weaken. In this scenario, inflation rises at a time when demand destruction prevents the Fed from tightening, eroding the currency’s rate advantage.
   

Taken together, these results help clarify what investors should watch: the magnitude and duration of the oil shock, the shape of the rates response (a parallel move higher in the curve or bull steepening), and how the dollar reacts. Currently, markets appear to be pricing a relatively contained scenario – one that is unlikely to deter dip buyers, who may see current valuations as a measured recalibration of 2026 valuations rather than a structural shift.

FIG 3. Simulated impact of oil price rises on the US dollar over time⁴

Simply put, in the Iran-linked conflict scenario, the scale of the oil shock remains the decisive variable shaping asset-allocation decisions.