This week's oil price spike pushed Brent and WTI above $100 a barrel for the first time since July, lifting the probability of a Federal Reserve rate increase next week and putting recession back in the conversation for the first time since the Iran war's early days.
Cushions exhausted
Six months of resilience against the worst energy disruption in history have burned through the world's shock absorbers. U.S. strategic petroleum reserve stocks sit at their lowest level since the early 1980s. China, which had slashed crude imports and capped fuel exports to cope, has reversed course, imports rebounded from a decade low in June and export restrictions have eased. Crude flows through the Strait of Hormuz have recovered to roughly half or two-thirds of pre-war volumes, yet fuel supply remains severely constrained because refineries outside the Middle East and Russia cannot replace the lost output from those two regions.
Fuel markets tighter than crude
The strain shows up most violently in products. U.S. gasoline prices hit a seasonal record for late summer, a period when they normally decline. Diesel, the economy's workhorse fuel, averaged $6 a gallon nationwide for the first time ever, after breaking the previous all-time high of $5.85 last week. That pressure is feeding directly into Treasury yields and longer-term borrowing costs, giving the Fed reason to consider a pre-emptive rate move as soon as its next meeting.
Goldman recalibrates odds
Goldman Sachs has marked its 12-month recession probability down to 15 percent from 30 percent in March, reflecting half a year of unexpected durability. "We've scaled back our estimate of 12-month recession risk. We had that at about 30% back in March. We've got it at 15% now, but yeah, if we were to see another shock, we'd raise that again," Chief Economist Jan Hatzius told Yahoo Finance. The bank's current projection of roughly 1.5 percent GDP growth in the second half excludes any further energy shock.
Fed watch shifts
Traders have moved decisively. The CME FedWatch gauge showed a 72.4 percent chance of a quarter-point hike next week as of September 10, up from 49.4 percent a week earlier. Hatzius warned that a sustained jump in gasoline prices would force a downgrade to the growth forecast because "that is very directly relevant for consumer real income." Record diesel costs, meanwhile, translate into higher goods prices and faster inflation, a combination that leaves policymakers little margin for error.