Will conflict in Iran spark a recession? Maybe. | Expert Opinion

Every recession since World War II, aside from the one caused by COVID-19, has been preceded by a spike in oil prices. With hostilities in the Middle East raging for the past month and oil prices surging, it is important to consider whether an economic downturn is dead ahead.

The conflict with Iran that erupted in late February has caused the largest disruption to global oil supplies in history. The global economy’s most important shipping route, the Strait of Hormuz, has been closed by the Iranians, shutting down almost one-fifth of the world’s oil, liquefied natural gas, and propane supply.

Oil prices have surged to near $100 per barrel, double the level at the start of the year. With prospects for the conflict continuing, stock prices are sliding and interest rates are rising as investors worry that higher oil prices will lead to weaker growth and higher inflation.

The economic damage is mounting. Gasoline prices have jumped from less than $3 per gallon of regular unleaded to near $4, and if oil prices remain where they are, prices at the pump will soon be closing in on $4.50 per gallon. This isn’t far from the all-time high reached when Russia invaded Ukraine several years ago.

This is a big hit to Americans’ purchasing power. If people need to spend more of their wages on filling their gas tank, they have less to spend on everything else. This is especially true for lower-income Americans, many of whom live paycheck to paycheck and spend a higher share of their incomes on energy.

Prices for other goods and services will also soon rise, further cutting into consumers’ purchasing power. Anything that needs to be transported by truck, such as groceries, or delivered by Amazon or UPS, from clothes to consumer electronics, will cost more due to the surge in diesel prices, which are up even more than gas prices. And airline ticket prices are going up with the cost of jet fuel.

If oil prices do not recede soon, prices for most manufactured goods will ultimately rise, as will the cost of many labor-intensive services, as workers will demand higher pay to compensate for higher transportation and living costs.

I won’t bother you with the arithmetic, but if oil prices remain where they are, the increase in living costs will be more than what Americans will receive in the deficit-financed tax cuts from the One Big Beautiful Bill Act this year. So instead of being a source of fiscal stimulus, supporting stronger growth, the legislation increasingly appears that it will only help cushion the financial blow.

The economic fallout from higher oil prices goes beyond these dollars and cents. Nothing weighs more heavily on consumers’ collective psyche than having to pay more at the pump. Almost everyone is aware of the cost, as they either regularly purchase gas or drive past a gas station on the way to work or school or while out shopping. Buying gas is not a luxury. It is the most basic of necessities, and although consumers can change their driving behavior if need be, it is not easy. With consumer confidence already fragile, it is easy to imagine consumers losing faith and pulling back on spending.

Complicating things further is the bind higher oil prices put the Federal Reserve Board in. Does the Fed respond to the weaker economy by cutting interest rates, or instead to the accelerating inflation by raising rates? Unsure of the right answer, the Fed will likely do nothing. We shouldn’t count on the Fed to rescue the struggling economy.

Recession is a serious threat, but it can still be avoided. However, this would require President Donald Trump to declare in the next few weeks, if not days, that the U.S. has won the conflict with Iran and will cease its military attacks. This would not mean that there has been a regime change in Iran or that the Iranians have unconditionally surrendered as the president previously demanded, but simply that whatever objectives the president had in mind have been achieved.

Side-stepping recession also rests on Israel following Trump’s lead and the Iranians standing down in response, allowing the Strait of Hormuz to reopen. Iran is suffering enormous humanitarian costs; the nation’s leadership is being systematically eliminated, and its military capabilities have been severely degraded. These are strong incentives to end the fighting, at least for a while. Iran will remain a formidable adversary, and there will almost assuredly be future conflicts, but these are problems for another day.

Of course, this all seems tenuous, and it is, so although a recession can still be avoided, it would be prudent to prepare for one.