Super Central Bank Week Preview: Pause, But Not Quiet

Interface News Reporter | Liu Ting

This week, the global financial markets are experiencing a true “Super Central Bank Week”—the Federal Reserve, Bank of Japan, European Central Bank, and other major central banks will hold intensive monetary policy meetings. On the eve of these meetings, an unexpected geopolitical storm has completely rewritten the market’s calm narrative: escalating US-Iran conflict has triggered a surge in international oil prices, and the clouds of stagflation are once again overshadowing the global economy.

Analysts say that the Federal Reserve and Bank of Japan are likely to keep interest rates unchanged this week. The Fed faces a dual dilemma of “weak employment” and “high oil prices,” while the Bank of Japan, due to its heavy reliance on energy imports, is caught in deeper policy hesitation.

Across the Pacific, behind the “pause” of these two major central banks are entirely different economic narratives. For the Federal Reserve, if the conflict is resolved within a month and oil prices fall back after a spike, inflation risks will be manageable, and there is still room to cut rates later this year. If the conflict becomes prolonged, the Fed will face a deeper dilemma. For the Bank of Japan, the surge in oil prices further reinforces imported inflation driven by yen depreciation, and the earliest possible rate hike could be at the April meeting.

US Economy Narrative Shifts from “Soft Landing” to “Stagflation”

Market consensus expects the Federal Reserve to keep the federal funds rate between 3.50% and 3.75% unchanged this week, and to hold steady throughout the first half of the year. Behind this consensus is the intense conflict between the Fed’s dual mandates—full employment and price stability.

Latest data show that non-farm payrolls in the US unexpectedly decreased by 92,000 in February, with the unemployment rate rising to 4.4%. The data for December last year and January this year were revised downward by a total of 69,000. The unexpected slowdown in the labor market should have provided ample reason for rate cuts. However, the opposite is happening: since the escalation of tensions in Iran, international oil prices have surged, with Brent crude futures rising from around $72 per barrel at the end of February to over $100. According to Morgan Stanley, a 10% increase in oil prices directly raises overall US inflation by about 0.3 percentage points, and current actual increases have far exceeded this level.

White Xue, Senior Deputy Director of Research and Development at Orient Securities, told Interface News that the core of market trading is shifting from AI prosperity and “soft landing” expectations to pricing geopolitical risks and stagflation threats.

“The direct trigger for this shift is the escalation of Middle Eastern geopolitical conflicts causing energy supply shocks. The surge in oil prices not only directly raises short-term inflation expectations but also raises concerns that this will, through cost transmission mechanisms, exert substantial pressure on US economic growth prospects,” White said.

Without considering the disruptions caused by the current US-Iran conflict and rising oil prices, the inflation trend in the US in 2026 would mainly be influenced by tariffs and endogenous demand. In a baseline scenario without external oil shocks, US inflation in 2026 would lack strong upward momentum or a basis for rapid decline, maintaining a moderate fluctuation pattern. However, the Middle Eastern war has broken this pattern.

Analysts say that the impact of rising oil prices on US inflation occurs on two levels: first, directly increasing energy-related components, quickly reflected in the overall CPI; second, gradually transmitting through cost pass-through to core inflation, affecting the core Personal Consumption Expenditures Price Index (PCE), which currently runs close to 3% year-over-year. If oil prices remain high and this transmits into core inflation, the Fed will face a dilemma between controlling inflation and maintaining growth.

While it may be premature to say the US economy is in stagflation now, the policy space for the Fed has significantly narrowed amid inflation rebound and slowing growth. The market generally expects the Fed to cut rates only once or twice this year, with the first cut not until September— starkly contrasting with pre-conflict expectations of two rate cuts within the year, with the first in June.

Morgan Stanley believes that if oil prices do not fall back to pre-conflict levels, the first rate cut could be delayed until the end of the year. Ernst & Young notes that supply shocks are very difficult to handle, as they push up inflation while also suppressing output, making it more likely the Fed will keep rates unchanged for “a long time.” The Chicago Mercantile Exchange’s “Fed Watch Tool” shows that the probability of rate cuts in each of the remaining seven meetings this year does not exceed 50%.

White emphasized that the Fed is expected to adopt a data-dependent approach in the first half of the year, possibly cutting rates 1-2 times in the second half, with the specific pace and magnitude depending on geopolitical developments and economic recovery. She stressed that short-term geopolitical disturbances do not change the overall monetary policy direction, as the inflation rebound is mainly driven by external shocks from oil prices due to geopolitical conflicts, which are exogenous rather than demand-driven. Additionally, the core inflation, excluding food and energy, has increased moderately, but rising oil prices not only boost inflation but also hinder US economic growth.

Western Securities overseas analyst Zhang Ze’en expressed a more optimistic view, telling Interface News that he expects the conflict to likely end in about a month, around late March to early April. Once the conflict ends, the Fed will need to reassess its impact on the economy, and the first rate cut could occur in April.

Japan’s First Rate Hike of the Year May Come Earlier

Unlike most central banks worldwide, the Bank of Japan is currently in a rate hike process. Although analysts believe the BOJ will keep rates steady at the March meeting, the depreciation of the yen and the resilience of core inflation may prompt an earlier rate hike within the year.

Several sources told foreign media that the BOJ has basically ruled out a rate hike in March, needing time to carefully assess the impact of Middle Eastern conflicts on the economy and prices. BOJ Vice Governor Shinichi Ichimura recently stated that the Middle East situation could influence Japan’s economy and prices, but it is difficult to predict specific effects at this stage, and the BOJ will closely monitor developments.

Data shows that Japan’s self-sufficiency rate for crude oil is less than 1%, with over 92% of its oil imports coming from the Middle East, and more than 80% of transportation routes passing through the Strait of Hormuz. This means that any disturbance in the Strait of Hormuz will directly affect Japan’s energy costs and inflation levels. This is also one of the reasons why Japan’s stock market fell among the global leaders after the outbreak of the US-Iran conflict. On March 17, the Nikkei 225 closed at 53,700.39, about 9% lower than the last trading day before the conflict.

On the other hand, like the US, Japan also needs to balance between stabilizing growth and controlling inflation. According to the Japan Composite Research Institute, a prolonged blockade of the Strait of Hormuz could reduce Japan’s annual GDP by 3%. Nomura Research Institute data shows that every $10 increase in international oil prices per barrel raises Japan’s annual energy import costs by 1.3 trillion yen, directly increasing electricity, industrial, and logistics costs for households and businesses, with risks of production cuts in key industries like automotive, electronics, and chemicals.

Over the past years, the BOJ has used Yield Curve Control (YCC) to set a clear target range for 10-year government bond yields and maintained negative policy rates to stimulate demand and raise inflation. Since the pandemic in 2020, Japan’s inflation has gradually risen, and a benign cycle of wages and prices has begun to form. In March 2024, the BOJ officially announced the abolition of the YCC policy and entered a rate hike phase. So far, the BOJ has raised rates four times, with a total increase of 85 basis points to 0.75%, the highest since September 1995.

The recent escalation of Iran’s situation, through crude oil prices, has exerted unexpected upward pressure on Japan’s inflation, which may further strengthen the Japanese government’s need to increase fiscal subsidies, tax cuts, and accelerate measures to stabilize prices.

Zhang Ze’en said that the BOJ’s rate hike decisions are influenced by domestic inflation levels, economic conditions, and yen depreciation pressures. Yen depreciation and inflation stickiness are the core drivers of rate hikes, but uncertainties in economic outlook continue to constrain the pace and scale of policy tightening, prompting the central bank to remain cautious.

He further pointed out that the current high and volatile USD/JPY exchange rate, persistent Japanese-Japanese interest rate differentials, and risk aversion triggered by Middle Eastern conflicts have further weakened the yen. As an economy highly dependent on energy and resource imports, yen depreciation directly raises import costs for crude oil, grains, and other commodities, making imported inflation difficult to quickly ease— the surge in oil prices caused by Middle Eastern tensions has already sharply increased Japan’s crude oil import costs, potentially offsetting half of the government’s price stabilization efforts.

“At the same time, domestic inflation in Japan remains sticky. Although the core CPI reached 2% in January, meeting the policy rate target, as the ‘Spring Wage Offensive’ progresses, the wage-price transmission cycle continues. Moreover, the risk of capital outflows due to yen depreciation also requires moderate rate hikes to narrow interest rate differentials and stabilize exchange rate expectations, avoiding a vicious cycle of ‘depreciation—inflation—capital flight’,” Zhang said. He expects the BOJ’s first rate hike this year to be moved forward from June to April.

Moody’s in a report expects the BOJ to keep rates steady this week but possibly raise to 1% around mid-year. Moody’s noted that a further weakening of the yen could prompt the BOJ to “preemptively hike rates” later this year, but sluggish wage growth and economic data make aggressive hikes above 1% unlikely.

Since April last year, the yen has continued to weaken against the dollar, accelerating after the conflict erupted. As of this report, USD/JPY has fluctuated above 158. The Japanese Ministry of Finance has stated that with the yen’s sharp decline approaching 160, it will take decisive measures if necessary to address exchange rate fluctuations.