Donald Trump signed a memorandum of understanding with Iran at the Palace of Versailles, France, this week, touting the deal as a market success. "There is nothing as smart as the market – and the market loves it," he said, claiming credit for ending economic chaos sparked by bombing Iran in late February. Without the agreement, he warned, "the alternative would be a worldwide depression."
Oil prices drop but uncertainty remains
By the weekend, optimism waned after planned US-Iran peace talks in Switzerland were abruptly called off, then reinstated. Iran cited Israeli bombing in Jordan as justification for closing the Strait of Hormuz again. Hopes persist that the sea passage, carrying about 20% of the world's oil supplies, will fully reopen soon. If oil flows freely, it could forestall shortages of key products like jet fuel.
Energy markets anticipate a resurgence in supply: the cost of a barrel of crude oil dropped below $80 after the agreement, the first time since the early days of the war. However, governments are still counting the economic costs of a conflict they did not want.
Regional economic impacts vary
Gulf economies, which saw exports choked off and faced Iranian bombs, are expected to plunge into recession. Analysts at Oxford Economics predict GDP in the region will decline by 2.6% this year. In contrast, US economic growth remains strong, bolstered by AI investment and mega market launches like SpaceX. Yet American drivers pay $1 more per gallon for petrol than a year ago, and US inflation surged to 4.2%, its highest in three years—a figure Trump greeted by claiming, "I love the inflation."
Federal Reserve faces pressure
Trump's newly appointed Federal Reserve chair, Kevin Warsh, was chosen in hopes of delivering interest rate cuts. Instead, he may face pressure to raise borrowing costs. Dario Perkins, head of global research at TS Lombard, said the Fed might increase rates up to four times, to a range of 4.5% to 5%, by end of next year. He noted US consumers have remained strong by running down savings, while European shoppers are more cautious. "The euro consumer, while they have savings, are more worried about the war and its outcome," Perkins said.
In the EU, heavily reliant on gas imports, the European Central Bank raised interest rates for the first time since 2023 to curb surging inflation. UK inflation hit 2.8% in April, with interest rates on hold, but confidence is hit hard and the jobs market remains weak. Sanjay Raja, chief UK economist at Deutsche Bank, expects inflation to rise further by up to another percentage point in coming months. He said, "All of the data suggests that there's something coming – we are going to see some pressure." However, he expects a modest downward effect on GDP growth of up to a quarter of a percentage point.
Developing countries face fuel rationing
Many developing countries have been forced to ration fuel amid rocketing prices and brace for surging fertiliser costs. This "demand destruction"—cutting back usage when prices become unaffordable—may partly explain why oil prices have not surged higher since February. Raja argues it is also because countries like China relied on strategic oil supplies, some unknown to analysts.
Despite Trump's bullishness, the tentative agreement leaves many questions unanswered. Ryan Sweet, chief global economist at Oxford Economics, said, "The difficulty of quantifying the economic cost is that the economic timeline doesn't equal the military timeline, so we're still going to be feeling the economic impact of this through the rest of this year and potentially early next." He noted details on the Strait of Hormuz reopening remain hazy, with risks of tolls or reduced ship numbers.
Deal fragility and long-term risks
Fears remain that hostilities could reignite if Trump doubts Tehran's commitment to winding down nuclear plans. He also faces pushback at home, even from Republicans. Neil Shearing, chief global economist at Capital Economics, said the deal is fragile: "It's a good start. But there are several ways the deal can fall apart. Israel's attacks on Hezbollah and Lebanon, Iran exploiting its chokehold over the strait of Hormuz, and a dispute over how to limit Iran's nuclear ambitions."
Shearing added that oil markets may be too sanguine: "Our modelling shows Brent crude should be about $90 a barrel in Q3 and $80 in Q4. However, the market has raced ahead and is already pricing oil at $80. That's a Goldilocks outcome to the war when there is plenty more negotiating to be done."
Matt Gertken, chief geopolitical strategist at BCA Research, said the memorandum "should not be seen as a complete and durable peace deal that uncorks the global commodity bottleneck and concludes the war." He assigns a 60% chance of renewed fighting after US midterm elections, as Trump may seek better terms from November 2026 to end of 2027.
Long shadow on supply chains
Even if the deal holds, economists warn energy markets may not snap back quickly. Gulf oil infrastructure needs restoration, and a backlog of ships must transit the strait. More worryingly, the conflict may permanently increase commodity costs by prompting firms to build slack into supply chains. As Sweet put it: "I think there's going to be a long shadow from this."
