The Lull Before the Oil: Why Reopening Hormuz Will Not Rescue Inflation

Brent is around $96 and WTI is below $90, both down again even after the US struck Iranian targets over the weekend. Oil has fallen sharply through the past week as the market prices optimism that a deal reopens the Strait of Hormuz and brings crude back down. Even after the pullback, oil is still far above its pre-war level in the low 70s. US headline inflation is heading toward 4 percent, and UK and eurozone inflation are above target and rising. The Federal Reserve and the Bank of England are on hold, while the ECB is expected to hike in June. The market is treating the inflation as temporary, on the assumption that the oil move continues and the central banks get their room to cut.

We think that assumption is wrong, for two reasons.

The first is that the deal is not materialising. An agreement has been priced as imminent for weeks, and each time it has slipped. The sensible posture is to wait for a signed deal rather than react to the headline of one.

The second matters more. Even when a deal lands, reopening the Strait does not immediately bring oil back, because of how long crude takes to physically move and how much regional energy capacity has been destroyed. Oil stays elevated for months, inflation stays sticky, and the central banks stay stuck.

That shapes the three currencies into a clear order. The dollar is the strongest of the three, gaining on both the pound and the euro. The euro is the weakest, losing on both. Sterling sits in between, gaining on the euro but losing to the dollar. The dollar stays supported for longer than the consensus expects, with its structural weakness now a 2027 story. The euro is the most exposed to the energy shock and the most structurally vulnerable underneath. Sterling is trapped between a stuck Bank of England and an absent growth agenda, but holds up against a weaker euro. This piece sets out why, starting with the oil.

When the Strait of Hormuz reopens, oil does not arrive at refineries overnight. It has to be shipped, and the journey is long.

Crude from the Gulf takes 15 to 25 days to reach Asia, 30 to 40 days to Europe, and 40 to 50 days to the US Gulf Coast, the longer routes reflecting vessels going via the Cape of Good Hope to avoid the Red Sea. These are the transit times the industry works to. Asia is the most exposed, with China and Japan both drawing the bulk of their crude from the Gulf.

The restart friction adds to it. Tanker rates on the Persian Gulf to China route jumped more than 100 percent through the conflict. Marine insurance premiums doubled. Shipowners paused offering vessels while they assessed the risk. None of that normalises on the day the Strait reopens. Owners need confidence the ceasefire holds before they commit vessels, insurers need to reprice, diverted ships need to reposition, and refiners who ran down feedstock need to rebuild it.

The result is a lull of several months, even in the best case, during which very little new Gulf crude reaches the refineries that need it. The market prices the reopening instantly. The barrels do not arrive instantly. That gap is what keeps oil supported.

The shipping lull is the timing problem. Underneath it sits a more durable one. A meaningful chunk of the region's energy infrastructure has been physically damaged, and that does not come back when the Strait reopens.

The clearest example is Qatar's Ras Laffan, the largest LNG export hub in the world. Strikes there destroyed two production trains and cut Qatar's LNG export capacity by 17 percent. QatarEnergy's chief executive has said the damage will take three to five years to repair and has triggered a long-term force majeure on some contracts, with Italy and Belgium among the markets affected. This is unsanctioned supply, flowing directly to Europe and Asia, now offline for years. Rystad Energy puts the total regional repair bill at $25 billion and warns the disruption will linger.

The binding constraint is not money. It is equipment. The large-frame gas turbines needed to rebuild the damaged capacity come from only three manufacturers globally, and all three entered 2026 with order backlogs of two to four years on the back of data centre demand. Even with a durable ceasefire and unlimited capital, the kit to restore full capacity is back-ordered for years.

This is what the market is underpricing. The comfortable read treats the conflict as a switch: war on, oil up, war off, oil down. The reality is destroyed capacity that takes years to rebuild, sitting on top of a shipping lull that takes months to clear. Both point the same way. Oil and gas have a floor under them that is structural rather than sentiment, and that floor sits well above where the market would price a clean de-escalation.

That is why we think oil does not fall much below the low 80s this year, even with a deal. The market is already pricing the reopening, as this week's pullback shows. But the physical supply base that would justify a sustained move lower has been degraded.

Our Fed call has hardened. We moved it from September to December over the past month, and we are now moving off a 2026 cut altogether. We do not see a cut this year. The risk from here is a hike rather than a cut, though we do not expect a hike this year either. We would rather track the data than hold a call for the sake of consistency, and the data points one way: higher for longer.

With oil held up by the shipping lull and the capacity damage, US headline inflation near 4 percent is close to baked in for the year. Oil at these levels feeds through to headline within a quarter or two, and the year-on-year comparison stays elevated. There is no clean path back to a print that gives the Fed cover to cut, even if the conflict de-escalates.

But elevated headline inflation does not on its own force a hike. What turns an energy shock into a hiking cycle is the second-round effect, where a strong labour market full of job openings lets workers win pay rises to offset higher prices, and those wages feed back into costs and prices. That is the spiral a central bank has to fear, and the US labour market is not in that condition. Hiring has slowed, unemployment has drifted up, and the wage pressure that defined 2022 is absent. The price pressure is real. The mechanism that makes it self-sustaining is not. That is why the Fed can sit with inflation near 4 percent and still not move. The clear trigger for a hike would be headline nearing 5 percent, at which point the Fed would likely act to protect its credibility regardless of the labour market. We do not see that this year. If it comes at all, it is a 2027 story.

The Fed is widely, and rightly, seen as dovish. Inflation has run roughly 50 percent above the 2 percent target for three years, and over that same period the Fed has cut close to 200 basis points. A central bank that eases by 200 basis points while inflation sits 50 percent above target is structurally dovish, and that reaction function does not flip overnight because of one Chair change. What is worth flagging is the gap between that dovish Fed and a bond market that has been pricing the opposite, with hike risk on the table and no cuts in 2026. That gap is the tension at the heart of the US picture.

Kevin Warsh is the wildcard. He was sworn in as Fed Chair on 22 May after a 54 to 45 Senate confirmation, the most divisive in the institution's history. Trump said he wanted Warsh to be "totally independent," which sits awkwardly against his comment in February that he would not have chosen Warsh if he wanted rate hikes. The market is right to be sceptical about how independent the relationship really is. But the more constructive possibility is being underweighted. Warsh made his name as a critic of the Fed's crisis-era bond-buying, has pledged "regime change," and has been openly critical of the 2021 and 2022 errors. For close to twenty years the Fed has run unorthodox policy, embedding itself in the long end of the curve and staying there far longer than any crisis justified. An orthodox Fed steps back and lets the market price duration risk. If Warsh pursues that, it pushes long-end yields higher, not lower.

The yields tell the near-term story. The 10-year is around 4.49 percent, off the 4.61 percent high of mid-month. The 2-year is around 4.05 percent, the 30-year just above 5 percent. The market has spent the past week unwinding the hawkish positioning that built through the hot CPI and PPI prints. We think the medium-term direction is higher, driven by persistent inflation, a structurally dovish Fed, and heavy issuance. As long as the Fed stays elevated and the long end drifts up, the dollar stays supported. This is the picture we set out in the Stagflation Moment piece, where we noted the dollar would strengthen as the market priced inflation persistence. That has played out. The structural weakness story is intact, but it is now a 2027 story rather than a 2026 one. For now the dollar is the strongest of the three, gaining on both the pound and the euro.

Sterling has bounced into the mid-1.30s against the dollar over the past week as UK political risk eased and gilt yields retreated, with the 10-year gilt back to around 4.88 percent and the 30-year to around 5.57 percent, off the mid-May peaks. That bounce is close to its limit. If the dollar holds its support on persistent US inflation, the recovery is capped, because the strength is more about the dollar pausing and UK politics calming than any structural improvement in the UK story. Sterling loses to the dollar from here. Where it holds up is against the euro.

The Bank of England runs through the same mechanism as the Fed. Headline inflation is rising and core with it, and with inflation above target for too long, the Bank is nervous. Whether it should act depends on whether that inflation shows up in wages. As with the US, the dangerous scenario is the one where confident workers, seeing plenty of job offers around them, ask employers for pay rises to offset higher energy costs, and prices, wages and costs chase each other higher. That is the spiral a central bank has to fear.

UK and Western labour markets are not in that condition, and that is the fundamental difference between now and 2022. The Bank's own April minutes make the point: relative to the last energy shock, this one starts from weaker demand, a looser labour market, and private sector wage settlements for 2026 that were largely agreed before the shock hit. The data since has confirmed it. Regular pay growth has slowed to 3.4 percent, private sector pay to around 3 percent, the slowest since the pandemic, with the rolling three-month measure at just 0.6 percent. April payrolls fell by 100,000. The second-round channel, the one that would justify a hike, is closed for now.

We read the weak labour market as a product of political uncertainty. Businesses are in wait-and-see mode because they do not know who will be running the country or what the policy will be. The Bank's Agents attribute the employment weakness to subdued demand and uncertainty, which is the same thing seen from the firm's side. So we do not think the BoE hikes, and we do not think it should. It is stuck for the same labour-market reason the Fed is. The honest counter is Catherine Mann's, who argues the models overstate the slack and that firms hold more pricing power than the Bank assumes. If she is right, the hike risk is live. We do not think she is, while the labour market stays this soft.

The political layer is largely priced. The market has accepted that Starmer is a lame-duck Prime Minister, that the timing and identity of any successor are unclear, and that Andy Burnham may yet find a route back to Parliament. What is not priced is the bigger risk: that the UK fails again to produce a growth agenda. If the autumn Budget delivers a third straight year of tax-to-spend rather than a credible plan for growth, the UK stays stuck in the trap we set out in the Sterling Trap piece. That, not the leadership question, is what matters for sterling over the medium term.

The structural pressures from that piece have not gone away. The UK still runs a current account deficit every year, and the inflation differential still erodes the real value of the pound over time. The UK is also a net energy importer, like the eurozone and unlike the US, so the same energy shock that the US can largely absorb feeds straight through to UK inflation. The Bank stays stuck, the growth agenda stays absent, and the pound stays trapped. But because the euro is weaker still, sterling holds its ground against the single currency even as it loses to the dollar.

The euro is the most exposed of the three to the prolonged energy picture, and underneath it sits a structural weakness the headline data hides.

Europe sits at the 30 to 40 day end of the Gulf transit times, and the Cape routing adds more. The damage to Ras Laffan hits European gas supply directly, as set out above, with Italy and Belgium named in QatarEnergy's force majeure. As a net energy importer with little domestic production to fall back on, Europe felt the price shock more sharply than the US through the conflict, and it carries that exposure for longer.

The picture beneath the headline is weaker than it looks. Eurozone unemployment is at a record low of 6.1 percent and employment has grown for 19 consecutive quarters, which sounds healthy. But almost all the job gains come from Spain, which is running 2.7 percent growth on immigration and tourism, with Italy adding a little. Strip those out and the core is struggling. German employment has gone ten straight quarters without meaningful growth and contracted again in the most recent quarter. France has been close to stagnant in manufacturing for three years. The eurozone labour market looks fine in aggregate and weak everywhere that matters for the industrial core.

This is the backdrop against which the ECB is expected to hike in June and again through the summer. We argued in the Sterling's Opening piece that hiking into an energy shock with weak underlying demand was a strategic error, and the case has only strengthened. The ECB has a singular focus on inflation and will keep tightening as long as it is not in recession. Our view is that if Hormuz does not reopen soon, Europe likely tips into recession, and if it does reopen, Europe may just about avoid one. Either way the ECB is hiking into weakness, and the only thing that shifts it off that path is an acceleration in the job losses already underway in Germany and France. That is the risk it is choosing to run.

For the euro, the result is a currency the rate hikes support in name only, structurally vulnerable underneath. EUR/USD has held around 1.16 rather than recovering, and looks more likely to drift lower than higher while the dollar holds its support and the European core stays weak. Against the pound, the euro is the weaker of the two, which is why GBP/EUR holds above 1.15 even as the BoE-ECB rate gap narrows. The euro loses on both sides.

An Iran resolution is unlikely to bring the swift relief the headlines will suggest. The shipping lull keeps oil elevated for months even in the best case, and the capacity damage keeps part of the supply base offline for years. The market may rally on news of a deal, as the oil move this week shows, but the physical picture changes slowly. The more realistic planning assumption for the rest of this year is elevated rates, a supported dollar, and continued volatility, not a quick return to the pre-conflict picture.

The dollar looks likely to stay supported for longer than the consensus assumed at the start of the year, with the anticipated weakness now more of a 2027 question. The euro carries near-term support from ECB hikes but real structural vulnerability underneath. These are conditions in which it is worth reviewing exposure and understanding the range of outcomes rather than assuming current levels hold or improve. Where certainty on a future cost or receipt matters, this is the kind of environment that forward cover and other risk management tools are built for, and we are happy to talk the options through.

The value in moments like this is in not being caught flat-footed by a headline. A deal announcement could move rates sharply in the short term even though the underlying supply picture changes only slowly. Businesses that understand the difference between the headline reaction and the structural reality are better placed to make calm decisions rather than reactive ones.

The comfortable assumption is that the Strait reopens and everything normalises. The reality is a lull measured in months, sitting on top of capacity damage measured in years, during which oil stays high, inflation stays elevated, and the central banks stay stuck.

The framework holds. The variable is the oil.