Getting More Anxious

By Bas van Geffen, Senior Macro Strategist at Rabobank

We have another potentially eventful weekend ahead of us. A three-week extension of the ceasefire between Israel and Lebanon may ease tensions between the US and Iran somewhat, as Trump wants to avoid that this conflict undermines peace talks with Iran. However, there are still no indications that a new round of talks will be held, as both sides continue to blockade the Strait of Hormuz.

Iran has continued to shoot at commercial ships that tried to navigate the strait, and US President Trump posted that he had “ordered the United States Navy to shoot and kill any boat […] that is putting mines in the waters of the Strait of Hormuz,” after the IRGC reported that the Iranian navy has laid more mines in the strait. So, President Trump may have extended the ceasefire earlier this week, but it remains a relative one. A tanker laden with Iranian oil is reportedly attempting to cross the strait today, perhaps testing the US’ resolve. That’s bound to add to tensions between both sides.

If talks do not happen soon, either side may revert to escalation. Recall that Axios reported earlier this week that the US maintains an unofficial three-to-five-day deadline for Iran to end its internal power struggle and get back to the table. If true, that deadline could expire on Sunday. Israel’s Channel 12 reported that Speaker of the Parliament Ghalibaf has resigned from the negotiating team due to these internal rifts, but Iranian reporters are contradicting these accounts.

It seems that the lack of talks is gradually starting to weigh on energy markets. Oil prices have crept higher over the week, with a barrel of Brent now trading around $106 in the futures market. Still, we remain surprised at the relative tranquillity in the energy space. As our energy strategists underscored in their latest note, “futures markets are still materially underpricing the real supply risk facing both crude oil and natural gas.”

On that same tune, the Bank of England warned that global equity prices may not reflect all the risks that face the global economy. Markets are at, or near, their all-time highs, despite these risks. Deputy Governor Breeden said that the Bank expects “an adjustment [of equity prices] at some point.”

Still, the muted response in markets has lessened the urgency for central banks to act, as policymakers around the world prepare for their next policy decisions. Those policymakers who would prefer to hike will have to convince their peers of the necessity. Just a couple of weeks ago, they might have been able to make a strong case for an April hike. However, the longer the conflict in the Middle East remains unresolved, the bigger the stagflationary impact will be. We have therefore shifted our call for an ECB hike to June, but conviction remains relatively low amidst the fog of war.

An inflation shock seems unavoidable now, and the key question is the intensity and duration. In addition to the anecdotal evidence of ripple effects on various supply chains, data are now starting to flag the economic damage too. The Eurozone PMI data came in mixed yesterday, with the French manufacturing sector above expectations and German manufacturing more-or-less in line. However, these headline prints are overstating the resilience of the sector. Manufacturers reported a large inflow of orders, ahead of expected shortages and price increases. So, this appears to be an attempt at stockpiling before the impact of the war becomes more widespread.

By contrast, the Eurozone services PMI fell to 47.4. Survey respondents reported lower output. We would argue that this services survey better reflects the decline in consumer confidence and business optimism, and their willingness to spend.

The PMIs also indicated that cost pressures continue to build “considerably.” Input prices increased further, particularly in manufacturing. But services providers also noted that higher transportation costs are affecting their business. So far, the passthrough to output prices remains limited. Nonetheless, output prices increased at the fastest rate in three years. And, as margins get squeezed further, companies may be forced to passed on more of the cost pressures in the coming months.

Adding further global inflationary pressures, Chinese exporters have begun to raise their prices on “everything from swimsuits to air conditioners,” as oil and oil-related inputs are causing higher production costs across the globe.