War‑related inflation risk appeared to be easing when the US and Iran signed a ceasefire three weeks ago, but new military strikes in the Gulf region this week from both sides highlights and strengthens the uncertainty around the outlook. Markets aren’t yet fully persuaded that inflation will continue to rise, but events over the last several days have increased doubt about when pricing pressure will ease.Oil prices rose earlier in the week on news that military action had resumed in the Gulf region, and Treasury yields moved higher as well. Markets were calmer on Thursday, however, with both oil and yields pulling back. Even so, it’s clear that expectations for the Iran crisis to keep fading as a geopolitical risk factor for markets and the global economy were premature.There’s still a case for expecting inflation to ease in the months ahead, but the path may take longer than markets were anticipating before this week’s resumption of military strikes. The Cleveland}} Fed’s inflation nowcasts, published just before the latest round of hostilities, anticipated that pricing pressure would start easing in the upcoming June Consumer Price Index report and continue dipping in July. But the prospect of a long, uneven path to peace in the Middle East has dented the optimistic view.One of the proprietary models The Capital Spectator monitors for tracking inflation has been showing a transition into a high‑inflation regime lately, based on data through May. The shift was notable since it wasn’t accompanied by a slowdown in economic pulse.The task for the immediate future is monitoring if the recent move of the pricing trend, albeit modestly so, into the high inflation/high growth endures. It’s possible that the latest military strikes in the Gulf region will be one-off events that don’t derail efforts to normalize Middle East energy exports, in which case inflationary pressure will ease.Yet this week’s events also remind that the pre-war calm is still nowhere on the near-term horizon. The potential for a long, protracted period of conditions that remain in a gray area between war and peace prevail.The question is how markets price in a brittle equilibrium for the US-Iran conflict. Similarly, the Federal Reserve will struggle to make reasoned, timely decisions for monetary policy.The latest release of Fed minutes, for the June 16-17 policy meeting, highlight that the central bank’s interest-rate setting committee remains split on the inflation outlook. This week’s events in the Middle East will likely strengthen the policy debate well into the future.The minutes outlined two key scenarios: if inflation stays high and broadens, most Fed officials are ready to raise rates; if inflation steadily falls, most prefer to hold rates steady or eventually cut them.“I do think [the minutes] showed that richness of these scenarios,” New York Fed President John Williams said on Thursday. “There are certain parts of the inflation outlook that are probably maybe a little bit more benign, say on the tariffs, maybe on the energy prices, depending how that plays out. But there are other scenarios where inflation is more persistent and stays higher, which would … call for tighter monetary policy. I think that’s the right way to think about it.”Fed funds futures continue to price in moderately high odds for keeping the target rate unchanged at the next FOMC meeting on July 29, followed by modest shift in favor of a rate hike in September.The wild card, of course, is still Iran, and will likely remain so for weeks if not months, or even longer. With no obvious path out of this box in the near term, markets will struggle to find a degree of comfort with elevated Middle East uncertainty that persists.Original Post