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It seems like forever ago that Donald Trump promised that the war against Iran would be over in “four to five weeks”.
The US president made that comment on March 1. Eleven weeks ago.
Even this week, Trump was claiming (again) that a deal to end the war he started was near, while at the same time saying he had instructed his military leaders to prepare for a “full, large-scale assault of Iran on a moment’s notice”.
Financial markets, which in March and even April were prepared to give Trump the benefit of the doubt over his prognostications, have given up believing his latest utterances.
That’s measured in the price of oil, which has sat above $US100 a barrel for the past month, and government bond markets where investors are betting inflation will be higher for longer.
The interest rate on 10-year American bonds, for instance, has climbed by more than 8 per cent over the past four weeks. When you owe the world about $US39 trillion, that’s a big increase in your interest bill. Australian interest costs have gone up by just 2 per cent over the same period.
High-priced oil and increasing interest rates is a dangerous combination.
But Australians, and the investment community, have put this all aside. Breathless concerns about the oil shortage and the number of ships steaming to Australia with diesel and petrol have been forgotten as commentary has moved onto the machinations of capital gains tax reform.
Panicking motorists who were filling every spare teapot with unleaded in March now drive into the local service station to see petrol at the same price it was before the war.
People planning on summer flights to Europe are blithe about the risks, and either taking a punt that Dubai airport will be open or have decided to head north via Hong Kong, San Francisco or Istanbul.
It’s eerily similar to how the world was travelling around 2005-06, before we all got whacked by the reality that would become the global financial crisis in 2008.
My fear is that the war against Iran is going to deliver another reality whack – and soon.
The International Energy Agency estimates that more than 1 billion barrels of oil has been lost from the Persian Gulf so far, growing at more than 14 million barrels a day.
We haven’t run out of oil, yet, because people have responded to the big increase in prices by cutting demand and nations have been tapping oil inventories.
But those inventories are being run down at a record pace. Demand management policies, such as the Egyptian and Indonesian governments asking their public servants to work from home one day a week, can only go so far.
While some oil-producing nations have increased output, they are still way short of making up for what was coming out of Iran, as well as other nations affected by the war such as the UAE and Kuwait.
And that’s not to mention the huge hit that this war has had to hydrocarbons needed for the production of fertiliser or the helium that’s pivotal to superconductors.
Combined, it means the threat of lingering and deep economic damage from the war is growing.
A fortnight ago the Reserve Bank released its own best guess on what happens to the Australian economy if oil prices don’t start to ease.
It has economic growth easing from 2.6 per cent at the end of 2025 to 1.3 per cent by December this year before inching up to 1.4 per cent the following year.
That pretty sour forecast is predicated on oil prices peaking at $US100 a barrel before easing to $US75 by year’s end. It also assumes ships flowing unimpeded through the Strait of Hormuz by December.
And it’s also predicated on nothing else going wrong, like an attack on a key piece of oil or gas producing infrastructure somewhere in the Persian Gulf.
On top of that, it rests on another key assumption – Australia can get the oil, diesel, jet fuel and fertiliser that it needs. As a rich nation with deep pockets, that’s a fair assumption. But it may not hold, the longer this war continues.
Rationing – think the battle in the nation’s supermarket aisles for loo rolls but at a much worse scale – delivers an economic hit that even the RBA is scared to consider.
In the federal budget, the Treasury released its own modelling on what the world looks like with oil at $US200 barrel. Inflation surges and then collapses because the economy is effectively in a recession with more than an extra 100,000 people out of work.
As Capital Economics chief economist Neil Shearing this week noted, global prices may soon reach a tipping point with the relatively rosy expectations of a quick return to reality running smack-bang into the reality of the Strait of Hormuz remaining blocked indefinitely.
“The Iranians clearly view control over the strait as their key, indeed perhaps their only, source of leverage over the US and the rest of the world,” he said.
“Meanwhile, President Trump has doubled down on the view that Iran must significantly curtail its nuclear program as part of any longer-lasting deal to end the war and reopen the strait.
“It is therefore difficult to see how the current impasse is resolved.”
If this impasse is not resolved, and oil prices continue to march upwards, the flow-on effects get worse. It means higher inflation, which increases financial pressure on families and businesses. It potentially means higher interest rates to deal with that inflation (before rates have to fall to deal with a much softer economy). It means higher costs of transport, and higher costs. It means farmers unable to afford the fertiliser they need to sow (if they can get the fertiliser).
This is the reality we all face, biting deep into our economy and our way of life.
Every day this war continues, that the Strait of Hormuz remains closed, that reality gets closer.
Shane Wright is a senior economics correspondent.
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