Past energy shocks have plunged the country into economic turmoil. OPEC’s oil embargo in 1973 and the start of the Iran-Iraq War in 1980 triggered recessions. Russia’s invasion of Ukraine in 2022 did not.
Will this new price shock spiral into an economic crisis? The answer depends on two unknowns: how long the fighting lasts and how seriously energy production in the Persian Gulf is disrupted.
But three weeks in, two things are clear: Iran is bent on creating maximum economic disruption, and the US economy was more fragile heading into the conflict than anyone realized — leaving it ill-equipped to absorb soaring energy prices.
Whether these facts influence President Trump’s decision on when to call off US airstrikes is anyone’s guess.
The latest: Gross domestic product, the broadest measure of the economy, expanded at a 0.7 percent annual rate in the final three months of 2025, the government reported last week. That was half the pace of the previous estimate.
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GDP growth for the year slowed to 2.1 percent from 2.8 percent in 2024, in part due to the record government shutdown in October.
Also last week, the government said the “core” Personal Consumption Expenditures Index, which excludes volatile food and energy prices, rose 3.1 percent in January from a year earlier. The Federal Reserve’s target for core PCE, its preferred inflation gauge, is 2 percent.
Why it matters: Steep and sustained energy cost increases would boost consumer prices even higher than the rate in January, before the war began, and put the Fed in a bind.
Usually, if the economy weakens, the Fed can cut interest rates to spur demand. But if inflation is hot at the same time — a scenario known as stagflation — policy makers will have to think twice.
Before the US and Israel launched their air bombardments, investors expected the Fed to reduce rates at least twice this year, with the first move coming in July. Now they see just one cut, perhaps not until December.
Higher interest rates cool inflation by curbing consumer spending and business investment, which together account for the bulk of economic activity.
On the ground: Iran’s threat to attack tankers has effectively shut the Strait of Hormuz, the transit route for one-fifth of the world’s oil, for all but its own ships.
That has sent Brent crude above $100 a barrel, an increase of more than 40 percent since the first missiles crisscrossed the Mideast on Feb. 27.
Consumers are feeling the sting.
- In Massachusetts, the average price of regular gas has climbed 22 percent to $3.54 a gallon over the past month, according to travel AAA.
- As of last week, the average price of heating oil in the state was up 40 percent over last year, data from the Massachusetts Department of Energy Resources show.
Higher transportation costs are just beginning to filter through the economy, which will lead to price increases on airfares, groceries, and consumer goods such as appliances and building supplies.
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Trump has said higher oil prices in the short term are a “small price to pay” to eliminate Iran’s nuclear threat.
Inflation impact: There would be a “modest macroeconomic drag” if crude remained above $100 a barrel through this year and next according to a research note from Apollo Global Management.
But some experts say oil could double from its current price if the Strait of Hormuz doesn’t reopen soon.
Some 20 million barrels of oil a day were moving through the waterway prior to the war, according to analyst Rory Johnston of the Commodity Context newsletter on Substack. The loss of that supply could push the price over $200.
“The longer this goes on, the higher we go,” he told Bloomberg’s Odd Lots podcast.
Final thought: The US economy has proven remarkably resilient since the pandemic, defying recessions despite the war in Ukraine and Trump’s chaotic imposition of tariffs last year.
Yes, energy prices are skyrocketing, but the stock market suffered only modest losses, suggesting that investors don’t see a disaster ahead.
But Trump is flirting with disaster. The administration underestimated Iran’s ability to hang on this long. There is no plan to mitigate the oil price shock, just improvisation: One day Trump is orchestrating the release of oil from US and its allies’ strategic reserves, the next he’s hectoring NATO to escort tankers through the Persian Gulf. And if he has a plan for ending the war, he hasn’t shared it with the American people.
The US and Israel have pounded Iranian military assets for more than two weeks. Iran keeps firing back.
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Unless the fighting ends soon, the economic consequences of this external shock will only mount.
Larry Edelman can be reached at larry.edelman@globe.com.