Will the Iran Conflict Trigger a Pandemic-Style Inflation Spike?

No, we do not think this is the likely outcome. While the path forward is highly uncertain, several key factors—including the typically limited pass-through of energy price increases to broader inflation, the possibility that the conflict remains short-lived, and the unique circumstances behind the 2021–22 inflation surge—suggest that a repeat of pandemic-era inflation is unlikely. Nonetheless, if the conflict were to drag on, the risk of a significant inflation spike would rise, even if we do not see this as the most likely scenario or expect it would approach the scale of the pandemic episode.

The coordinated attacks on Iran by the United States and Israel, which began on Saturday, February 28, have jolted markets, with the clearest effects showing up first in energy. Tanker traffic through the Strait of Hormuz, a critical passage for about 20% of global oil and liquefied natural gas (LNG) supply, has dropped sharply. At the same time, production across the region, including in Iran, Kuwait, Iraq, Saudi Arabia, the United Arab Emirates, and Qatar, has also been disrupted. Because oil demand is relatively insensitive to price in the short run, even modest supply losses can push crude prices meaningfully higher. That dynamic helped drive front-month ICE Brent futures up 46% from when the conflict began to $106 per barrel in trading today, prompting G7 countries to consider releasing petroleum from their strategic reserves and renewing concerns about inflation.

Many economists estimate that a $10 per barrel increase in oil prices would add roughly 15 to 30 basis points to US headline inflation. On that basis, a sustained 50% rise in oil prices could add about 0.5 to 1.0 percentage point (ppt) over the following year. The incremental inflation pass-through from further oil price increases may also diminish at higher price levels and over time as demand weakens. The impact on core inflation, which excludes food and energy prices and matters more for monetary policy and asset prices, would likely be much smaller. This is because energy is often only a modest input into the cost of goods and services relative to labor and other expenses, and firms may absorb part of the increase in margins rather than pass it through fully to consumers. The broader impact is also likely to be more limited than in the 1970s, when economies were far more energy intensive. In fact, in many advanced economies, energy use per unit of output has fallen by more than half since then as efficiency has improved.

Still, the inflationary impact will not be uniform across countries and regions. Economies that are net importers of oil, LNG, and other affected goods such as fertilizer are more exposed. In Europe, for example, prices for a key natural gas benchmark rose 67% last week, compared with an 11% increase in the United States, even though supplies from the Middle East account for only about 5% of the EU’s combined LNG and pipeline gas imports. Similar dynamics have played out in parts of Asia. For many non-US energy importers, the challenge could be compounded by the tendency of the dollar to strengthen during periods of market stress, which raises the local currency cost of dollar-priced commodities such as oil and LNG. Taken together, the hit to headline inflation in some non-US economies could be meaningfully larger, perhaps twice that of the United States. But, as in the United States, the effect on core inflation would likely be more limited for the same reasons.

Of course, the impact of the conflict on inflation will depend largely on its duration and scope. President Trump has sent mixed signals on how long it could last, at times suggesting it may end within weeks and at others that it will continue as long as necessary, likely as part of a pressure campaign aimed at securing a deal. Even so, he appears to prefer a short conflict. He has long criticized the protracted wars in Iraq and Afghanistan, and a prolonged campaign would raise the risk of greater US casualties, backlash from some Middle East allies, and higher inflation, all of which could weigh on political support at home ahead of the November congressional elections. That helps explain the administration’s move to support the war risk insurance market, which could limit further disruption to shipping flows if the conflict remains contained. Longer-dated oil & gas prices in both the United States and Europe likewise suggest investors expect the conflict to subside rather than become prolonged.

Even if the conflict were to last longer than most expect, the inflation backdrop would still differ markedly from the one that produced the pandemic-era surge. That episode reflected an extraordinary combination of fiscal and monetary stimulus and severe supply constraints, especially labor shortages. In the United States, annual inflation rose by 8.8 ppts, from 0.2% in May 2020 to 9.0% in June 2022, an increase comparable in scale to the major inflation episodes that peaked in 1974 and 1980. By contrast, today’s inflation risk is more concentrated, with higher energy prices rather than a broad-based demand and supply shock serving as the main transmission channel.

The conflict is likely to reinforce this year’s existing rotation within equity markets. Energy and industrial equities could benefit further as investors place a higher premium on sectors tied to commodity supply, defense, and industrial capacity, while the risk of firmer inflation may limit central banks’ willingness to cut rates, creating a less supportive backdrop for rate-sensitive growth sectors such as technology. We expect this dynamic to continue supporting our July 2025 recommendation to tactically overweight Latin American equities within emerging market portfolios, given the region’s significant valuation discount and more moderate, though still present, exposure to geopolitical risk. Across geographies, US equities may continue to benefit in the near term from safe-haven demand. Over time, however, the broader aftermath of the conflict could support greater marginal flows to ex US assets, consistent with the trend evident earlier this year, as some investors reconsider the risks of concentrated exposure to US assets and the dollar amid greater policy uncertainty and elevated valuations.

More broadly, periods of heightened geopolitical risk are a reminder of the value of diversification and discipline. As we noted in our 2026 Outlook, investors that have allowed their equity allocations to drift higher over the last decade or two should evaluate increasing their policy exposure to diversifying strategies such as hedge funds, given the broader shift in the risk-reward profile across asset classes. While markets often recover quickly from geopolitical shocks, the case for diversifying strategies is particularly compelling today relative to broad equities, which remain expensive, unusually concentrated in a small number of names, and less geographically diversified than is typical. Put differently, today’s environment calls for portfolios built to withstand a wide range of outcomes.