Financial market research company BMI expects oil prices to average $90/bl this year, and to remain higher for longer, which will, in turn, feed into rising inflation.

This would lead to pressure being placed on the reserves of energy-importing countries and to tightening monetary policies, particularly in emerging markets in Asia, said BMI Emerging Markets director and global economist Nikhil Sanghani on May 26.

The biggest impact of the energy shock arising from the disruption of trade through the Strait of Hormuz would be on global inflation. This inflation has already been seen in domestic fuel prices, which have risen significantly from a 0% y/y change to 5% y/y change over the past few months.

This was broad-based across regions and BMI expects the trend to continue for the next few months and for higher energy prices to increase domestic fuel prices. It also expects central banks to respond with hikes in interest rates, Sanghani said during the 'Emerging Markets: US-Iran Conflict Spillovers For Economies And Financial Markets' webinar.

Higher domestic fuel prices would weigh on incomes and present some risks to fiscal stability, which would increase the risks to growth, he said.

While BMI had made larger upward revisions to expected inflation during the year than it had revised growth expectations downward, it had made broad-based upwards revisions of expected inflation in emerging markets during the year, said Sanghani.

This would also affect policy risks, as there was limited scope for further easing by governments. The big picture was that energy importers with existing vulnerabilities would be the most exposed to risks, he said.

Asian countries, particularly South Asian countries, were exposed to the impacts of the conflict and the disruption of trade through the Strait of Hormuz. However, while emerging markets, such as Sri Lanka and the Philippines, were highly exposed, some developed markets, including Japan and South Korea, were also exposed, said BMI senior Asia country risk analyst Lee Yen Nee.

The impact of this would materialise in higher inflation and a potential shortage of energy and fertiliser in these markets. BMI had already adjusted its inflation expectations upwards for many of these economies, although its expectations for the impact on growth were less uniform, she said.

Most emerging markets in Asia were net importers of energy, as well as fertilisers, with the bulk being sourced from the Middle East. In Pakistan and Sri Lanka, buffers were already thin and the larger import bill would place significant pressure on these economies, said Lee.

In sub-Saharan African emerging markets, BMI expects the primary transmission mechanism of risks from the US-Iran war to be via inflation, similar to emerging markets in Asia, said BMI senior sub-Saharan Africa country risk analyst Orson Gard.

BMI made upward revisions of expected inflation across the board, and these countries already saw sharp increases in prices in March and April, with many governments forced to adjust regulated fuel prices upward, he said.

The changes in regulated fuel prices, including petrol and diesel, were typically more severe in smaller markets, such as Burundi, Lesotho, Liberia and Malawi. However, BMI expects larger markets, such as Kenya and South Africa, to also experience higher inflation in the coming months.

“We expect a stronger uptick in inflation across the board in these markets for the second and third quarters and, if the conflict persists for longer, then second-round effects to the end of the year are expected.”

BMI also made a substantial downward revision to the expected growth of South Africa during the year, lowering it from 1.5%, to 1.3% and then again to 1.1% expected growth for the year, although it had demonstrated good fiscal discipline, said Gard.

Further, shortages of sulphur imported from Gulf Cooperation Council (GCC) countries, or higher prices, may impact the mining sector in these emerging markets and contribute to making mining less competitive or less profitable.

There was not only an immediate monetary policy and growth impact that arose from the US-Iran conflict, but also, as the conflict persisted, the potential for critical supply shortages that could impact on activity in key sectors across the region, he pointed out.

Meanwhile, many sub-Saharan African countries relied on imports of fertiliser from GCC countries, including South Africa and Zambia, which were exposed because they were intense fertiliser users.

These fertiliser risks overlaid onto other areas of vulnerability, such as the potential El Niño weather pattern that was becoming increasingly likely.

“We are looking at the potential for a sharp and deep shock to regional food production. This would also push up inflation towards the end of the year and into next year throughout the harvest season. Multilayered shocks could entrench inflation in these countries over a longer period,” said Gard.