US
The fallout from the US-led military operation against Iran continues to dominate market action. USD is powering forward against all major currencies, stock markets are selling off, and bonds yields are up sharply. Gold prices steadied just under recent highs while crude oil prices extended gains.
A protracted conflict that leads to further disruption in energy production and shipping raises the risk of stagflation and could add to fiscal strains. A jump in energy prices puts upward pressure on inflation and would be negative for economic activity. Meanwhile, governments could respond to an energy supply shock with measures designed to cushion a surge in the cost of living, even as fiscal space is increasingly constrained.
As such, economies with a heavy reliance on imported oil and natural gas with weak fiscal space will be hit the hardest. The most vulnerable are Japan, India, South Africa, Turkey, Hungary, and Malaysia. The least vulnerable are Norway, Canada, and Mexico. Most other economies are in the middle either because they are energy producers (US, Brazil, Australia) or have some fiscal flexibility (China, Sweden, Switzerland, New Zealand, UK, Eurozone, Chile, Peru).
No major US economic data is scheduled for release today. New York Fed President John Williams and Minneapolis Fed President Neel Kashkari (FOMC 2026 voter) speak. Yesterday, the ISM manufacturing index pointed to rising cost pressures as the Prices Paid index soared in February by 11.5pts to 70.5 (consensus: 60.0), the highest reading since June 2022. That’s an upside risk to US inflation with the latest spike in energy prices intensifying that dynamic and constraining the Fed’s ability to ease policy.
EUROZONE
EUR/USD plunged below its 200-day moving average, with the next support offered at 1.1500. Eurozone inflation unexpectedly quickened in February. Headline, core and services CPI all rose 0.2pts to 1.9% y/y (consensus: 1.7%), 2.4% y/y (consensus: 2.2%) and 3.4% y/y, respectively. Absent the Middle East war, the Eurozone CPI data would have supported EUR and the case for an ECB hike.
However, surging European gas prices (highest since January 2023, still well below the highs seen after Russia invaded Ukraine) and historically low gas inventories pose a major upside risk to Eurozone inflation and downside risk to growth. That stagflation backdrop could complicate the ECB’s policy outlook and is a drag on EUR.
AUSTRALIA
AUD/USD is down, eyeing its next support level at 0.7000. The fog of war more than outweighed the tailwind to AUD from RBA Governor Michele Bullock’s hawkish remarks. Bullock stressed “We have inflation at 3.8 per cent headline and we have unemployment at 4.1%, tight. The board will be actively looking at whether or not it needs to move more quickly. Bullock added that there was no need to assume policy must move every quarter, stressing that the March meeting “will be a live meeting.”
RBA cash rate futures raised odds of a 25bps rate hike at the next March 17 meeting to 40% (vs. 10% before Bullock’s comments) and firmed up bets for 50bps of hikes by year end to 4.35%. We think the RBA can deliver on these rate hike bets because all the RBA’s internal models show a positive output gap consistent with tighter capacity constraints.
