Resilient growth, stubborn inflation: the U.S. and the Iran war
Inflation Scenario
This paper by Lutz Kilian, Michael D. Plante, Alexander W. Richter, and Xiaoqing Zhou, uses a two-stage approach. First, a nonlinear DSGE model of the global oil market generates scenario-contingent WTI price paths for three assumed durations of the Strait of Hormuz closure (1, 2, or 3 quarters). Second, these oil price paths are translated into monthly U.S. retail gasoline prices (using a crude oil cost share of 50%) and fed into a monthly structural VAR estimated over April 1990–February 2026. The VAR includes headline and core PCE inflation plus 1-year and 5–10 year household inflation expectations (University of Michigan Survey), with gasoline prices identified as predetermined with respect to all other variables.
Findings
- A 1-quarter closure raises the WTI price to $110/barrel (from $60 pre-war) and increases Q4/Q4 headline PCE inflation in 2026 by 0.35 percentage points; core PCE rises by 0.18 pp.
- A 2-quarter closure drives WTI to a peak of $132/barrel (July 2026) and raises headline PCE by 0.79 pp; core by 0.31 pp.
- A 3-quarter closure pushes WTI to $167/barrel (October 2026) and raises headline PCE by 1.47 pp; core by 0.49 pp.
Crucially, the paper finds that household inflation expectations remain well-anchored in all scenarios. The effect on 1-year expectations peaks at 0.61 pp only under the most severe (3-quarter) scenario, while 5–10 year expectations rise by at most 0.07 pp across all scenarios — evidence against a wage-price spiral dynamic. These inflationary effects are transient: headline PCE returns toward baseline within a few quarters of the Strait reopening.
Impact on the U.S. Economy
In this paper Kilian et al. build a two-country nonlinear DSGE model,— the U.S. versus the rest of the world, in which both countries produce oil, hold inventories, and trade goods. Oil enters both as a firm input and as a household consumption good. Real GDP uses Fisher ideal chain-weighted indices to handle the large relative price swings generated by supply disruptions. The model is solved nonlinearly using a policy function iteration algorithm on Federal Reserve supercomputers. Its key innovation is calibration across three separate time periods namely 1980, 1985–2019, and 2024, enabling a direct quantitative comparison of oil shock transmission before and after the shale revolution.
Findings
- A 15% geopolitical supply disruption (the size of the 2026 Iran War shock) would have reduced annualized U.S. real GDP growth by 5.6 percentage points under the 1980 calibration, but reduces it by only 0.3 percentage points under the 2024 calibration, a twentyfold decline in vulnerability.
- The same shock today causes a decline of 1.7 percentage points in the ROW, meaning the U.S. now suffers roughly one-sixth of the output loss experienced by the rest of the world.
- The two primary structural drivers of this insulation are: (i) the collapse in the oil expenditure share (from 8% of GDP in 1980 to 3% in 2024), and (ii) the transformation of the U.S. from a major net importer to a net oil exporter since late 2019. Changing either moment alone only partially explains the reduced sensitivity; changing both together nearly replicates the full 1980–2024 difference.
The Impact of the 2026 Iran War on U.S. Inflation: A Scenario Analysis
How Times Have Changed: The Impact of the 2026 Iran War on the U.S. Economy
Authors: Lutz Kilian, Michael D. Plante, Alexander W. Richter, Xiaoqing Zhou
From: Federal Reserve Bank of Dallas
The Iran war and the petrodollar
In this brief, Mallika Sachdeva argues that the Iran conflict is a structural stress test for the petrodollar system, the 1974 arrangement by which Gulf states price oil in dollars and recycle surpluses into US Treasuries in exchange for US security guarantees. Her main points are:
- The petrodollar was already under pressure before the war.
Saudi Arabia now sells four times more oil to China than to the US, with 85% of Middle Eastern crude going to Asia. Saudi Arabia had joined Project mBridge (a blockchain-based, non-SWIFT, non-dollar payment rail), and signed FX swap lines with China. Sanctioned Russian and Iranian oil was already trading outside dollar rails, in ruble, yuan, and rupee. - The conflict has exposed new fault lines.
US military bases and Gulf oil infrastructure came under attack, directly challenging the security-for-oil-pricing bargain at the heart of the petrodollar. Most significantly, there were reports Iran was negotiating to allow Strait of Hormuz passage only in exchange for oil payments in yuan, a potential catalyst for the “petroyuan”. - Gulf dollar savings may be drawn down, not recycled.
The MENA region holds $2 trillion in central bank reserves and $6 trillion in sovereign wealth funds. War damage to Gulf infrastructure may force these economies to redeploy dollar savings domestically rather than into US Treasuries, reducing structural demand for the dollar. - The bigger long-term risk is a global move away from traded oil itself.
If Europe, Asia, and the Global South accelerate a shift toward domestic fossil fuels, renewables, or nuclear power, as they did after 1973, global oil trade volumes will decline, reducing the entire basis for dollar invoicing.
What Iran means for the dollar: a perfect storm for the petrodollar
Author: Mallika Sachdeva
From: SUERF
