Oil spike raises spectre of renewed inflation

The global economy could be on the cusp of another inflationary shock after Israel launched airstrikes on Iranian nuclear facilities early Friday morning. The international benchmark Brent Crude surged 13% to US$78 a barrel, the biggest rise since March 2022. European natural gas prices also spiked.

This is all grimly reminiscent of Russia's 2022 invasion of Ukraine, though the economic backdrop is different. Relatively low energy prices have been among the few bright spots for the global economy this year amid slowing growth. By contrast, Brent Crude stood at US$78 when Russian tanks rolled over the border before surging to US$110 during the following weeks.

Answers to key questions such as whether this is likely to be a protracted conflict or a step in a broader escalation are unclear. A prolonged conflict that includes disruptions to shipping through the Strait of Hormuz could see Brent rise to US$120 or even US$130, depending on which analysis you choose. 

Bloomberg Economics analysts have already sketched out what a more moderate spike might look like: "A jump in the price of Brent to $100 a barrel would result in a 17% increase in all grades of gasoline prices in the US, corresponding to a rise to $4.2 a gallon from $3.25 a gallon... that would add 0.6 percentage point to headline CPI, boosting the year-over-year change to the CPI to 3.2% in June."

Sitting tight

In any event, central banks are likely to err on the side of caution during the weeks ahead. The Federal Reserve and many of its peers were already sitting tight to await the impact of tariffs, and it's hard to see a scenario where that stance shifts in the short term. As of yesterday, analysts were expecting the Bank of England to hold rates steady at next week’s meeting, with a cut likely to follow in August.

Renewed uncertainty will have knock-on effects on consumer and business sentiment, which will act as a drag on economies already showing weakness. UK GDP shrank by a larger-than-expected 0.3% in April from March, the biggest monthly drop since October 2023, according to official figures released this week.

Swap rates, which affect how much banks pay to fund mortgage lending, will likely rise, but the lenders may opt to wait to see if increases are sustained before raising rates. The best fixed rates currently sit just under 4%.

Less downbeat

Housing market sentiment was already pretty subdued. The measure of buyer demand in May's RICS Residential Market Survey, published yesterday, came in at a net balance of -26% – the reading has been negative for five months, though the latest reading is marginally less downbeat. A net balance measures the difference between the proportion of respondents reporting a rise and those reporting a fall, so a negative figure indicates more respondents saw a decline than an increase.

The measure of agreed sales came in at -28%, again marginally less downbeat than the previous month. Respondents do expect conditions to improve; the three-month sales expectations rose to a net balance of -5%, from -13% the month before. Looking further ahead, a net balance of +25% of respondents expect sales activity to rise over the next year – the strongest positive reading since February.

Proper pricing is going to be important during the months ahead, as listings rise amid weak buyer sentiment. The net balance of +7% for new sales instructions points to a steady rise in listings. That measure has now been positive for eleven consecutive months. Meanwhile, a net balance of +19% of respondents said market appraisals were up year-on-year, suggesting the pipeline of new stock remains solid. 

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