Oil, geopolitics, and global inflation
In this paper, Guillermo Verduzco-Bustos and Francesco Zanetti attempt to disentangle oil price fluctuations that are specifically caused by geopolitical risk from those driven by other forces such as OPEC decisions, natural disasters, or shifts in global demand.
The authors construct a novel instrumental variable for geopolitical oil price shocks using high-frequency daily oil futures price changes on days when the Caldara & Iacoviello “GeoThreats” index spikes by more than 200%. This instrument is embedded in a Proxy VAR (SVAR) model estimated on monthly data from 1975 to 2023, covering oil production, oil prices, inventories, world industrial production, uncertainty indices, and U.S. macro variables.
Findings
- A geopolitical oil price shock is far more severe than a standard supply shock: a 1% drop in oil production triggers an 11.5% oil price increase, nearly double previous estimates.
- Inventories follow a two-phase pattern which is unique to geopolitical episodes i.e. initial drawdown, then persistent precautionary accumulation.
- Across OECD countries, a 10% geopolitical oil price shock reduces industrial production by 0.5% and raises consumer prices by 0.3%.
- Oil exporters do not benefit: gains from higher prices are offset by uncertainty and trade disruptions, making geopolitical oil shocks universally costly.
Geopolitical oil price shocks: Why these shocks hit harder
Authors: Guillermo Verduzco-Bustos, Francesco Zanetti
From: The World Bank, University of Oxford
Quantifying the inflationary impact of the 2026 Iran War on the U.S. Economy
In this paper, Lutz Kilian, Michael D. Plante, Alexander W. Richter, and Xiaoqing Zhou analyze by how much rising gasoline prices, due to the Iran war, will push up U.S. inflation, and whether higher gasoline prices could de-anchor household inflation expectations. The authors use a two-model integrated framework:
- Nonlinear DSGE model of the global economy, calibrated to simulate the quarterly path of the WTI oil price under different assumptions about the duration of the Strait of Hormuz closure. The model features risk-averse agents with Epstein-Zin preferences, an oil production sector, and an oil storage firm that captures precautionary inventory demand. It explicitly models geopolitical oil supply disruptions as stochastic events of uncertain duration.
- Monthly structural VAR model, which maps the DSGE-simulated oil price paths into projections for U.S. headline and core PCE inflation, and for short- and long-run household inflation expectations. The key identifying assumption is that gasoline prices are predetermined with respect to the broader economy.
Three baseline scenarios are considered, namely the Strait of Hormuz closure lasting 1, 2, or 3 quarters.
Findings
- A 1-quarter closure would raise the WTI price to $110/barrel, increasing Q4/Q4 headline PCE inflation in 2026 by 0.35% and core PCE by 0.18%
- A 2-quarter closure would push WTI to $132/barrel at peak, raising headline inflation by 0.79 %and core by 0.31%
- A 3-quarter closure would spike WTI to $167/barrel, raising headline inflation by 1.47% and core by 0.49%
- Inflation expectations remain largely anchored: 1-year household expectations rise modestly (0–0.6 %), while 5–10 year expectations are nearly unaffected (0–0.07 %)
- The inflationary impact is transitory, largely dissipating by early 2027 once the Strait reopens
- Allowing for uncertainty about reopening substantially amplifies the inflation impact, since markets price in the risk that closures persist
The Impact of the 2026 Iran War on U.S. Inflation: A Scenario Analysis
Authors: Lutz Kilian, Michael D. Plante, Alexander W. Richter, Xiaoqing Zhou
From: Federal Reserve Bank of Dallas
