Author: He Hao
Source: Wall Street News
On Wednesday, Nick Timiraos, a well-known financial journalist known as the "New Fed News Agency," wrote that a ceasefire between the United States and Iran provides an opportunity to alleviate the latest serious threat facing the global economy. However, for the Federal Reserve, this may simply replace one problem with another: an energy shock that lasts just long enough to push up prices but not severe enough to significantly disrupt demand, thereby leading to prolonged high interest rates.
Timiraos cited the minutes of the Fed's March 17-18 meeting released on Wednesday, stating:
The minutes emphasized that the Iran war did not make the Fed reluctant to cut rates but rather complicated an already cautious stance. Even before the Iran conflict erupted, the path to rate cuts had narrowed. The U.S. labor market had stabilized enough to ease recession concerns, while progress in bringing inflation back to the Fed's 2% target had stalled.
The March meeting minutes noted that, partly due to the risk of a prolonged war, the vast majority of participants indicated that progress in reducing inflation toward the target might be slower than previously expected and believed that the risk of inflation persistently exceeding the Committee's target had increased.
At the March FOMC meeting, the Fed kept the benchmark interest rate unchanged in the range of 3.5% to 3.75%, marking the second pause after three consecutive rate cuts in the final months of 2025.
Timiraos stated that if the risk of an expanded Iran conflict dragging down economic growth and pushing the economy into a recession was the last and strongest reason to resume rate cuts, then paradoxically, the end of the war might make it harder for the Fed to ease policy in the short term:
This is because a ceasefire eliminates the worst-case scenario—a severe price surge disrupting supply chains and destroying demand—but it may reduce the degree of inflation risk less than it reduces the extreme scenario. Energy and commodity prices that rose during the conflict may not fully retreat, and financial conditions are easing with the optimism brought by the ceasefire, such as Wednesday's market rally.
Once the risk of severe demand destruction is ruled out, what remains is an inflation problem that has not been fully resolved, and recent energy price increases may also bring some "echo effects," which will persist even if the ceasefire holds, albeit more mildly than before.
Timiraos quoted Marc Sumerlin, managing partner of economic consulting firm Evenflow Macro, as saying: "As the probability of recession decreases, the probability of inflation increases because price pressures remain, but demand destruction is not as severe."
Timiraos pointed out that, at the same time, the ceasefire also reduces another less likely but more destructive risk—a sustained surge in energy prices forcing the Fed to consider raising interest rates.
Timiraos noted that the Fed's March meeting minutes showed that officials were weighing the dual risks brought by the war: on one hand, it could lead to a sudden deterioration in the job market, necessitating rate cuts; on the other hand, it could lead to persistently high inflation, requiring rate hikes.
In their post-meeting forecasts, most officials still expected at least one rate cut this year. However, the minutes emphasized that this expectation depended on whether inflation would resume its decline toward the target. The minutes stated that two officials had already delayed their judgment on the appropriate timing for rate cuts due to the lack of recent improvement in inflation.
The Fed's post-meeting statement still hinted that the next interest rate move was more likely to be a cut than a hike. However, the minutes showed that compared to the January meeting, the number of officials who believed this "bias" could be removed had increased. The minutes noted that if the wording of the statement were adjusted, it would imply that if inflation persistently exceeds the target, a rate hike could also be an appropriate option.
Timiraos stated that the Fed's current stance reflects a "layered problem," quoting Fed Chair Powell's recent speech:
Powell said last week that after the pandemic, the Russia-Ukraine conflict, and last year's import tariff hikes, the Fed is facing its fourth supply shock in recent years.
The Fed's policy has enough room to wait and assess the economic impact, but Powell also warned that a series of one-off shocks could weaken public confidence in the return of inflation to normal. The Fed is highly focused on this risk because it believes inflation expectations could become "self-fulfilling."
Timiraos pointed out that even before this week's ceasefire announcement, current and former Fed officials had stated that even if the conflict is resolved quickly, it does not mean policy will immediately return to normal. Part of the reason is that the world has seen how easily the Strait of Hormuz can be blocked, and this vulnerability may be factored into energy prices and corporate decisions for years to come. Some geopolitical analysts doubt whether a ceasefire can bring energy prices fully back to pre-war levels. Iran has strong incentives to maintain higher oil prices to fund reconstruction and maintain influence over its Gulf neighbors.
Timiraos quoted St. Louis Fed President Musalem's speech last week, stating that even if the conflict ends in the coming weeks, he would focus on the "ripple effects" that could continue to push up prices even after supply chains recover. "I am always looking for these echoes because even if the war ends quickly, it takes time to restore damaged capacity."
Timiraos stated that the Fed's cautious attitude echoes a framework proposed by then-Governor Bernanke over twenty years ago: central banks should decide how to respond to oil price shocks based on the level of inflation at the time the shock occurs:
If inflation was already low and expectations were stable, policymakers could "ignore" the inflationary pressures from rising energy prices; but if inflation was already above target, the risk of supply shocks further disrupting inflation expectations would require tighter policy, and some officials believe this is closer to the current situation the Fed faces.
