Key Takeaways:
The Federal Reserve's Beige Book confirmed inflation is accelerating as Middle East conflict drives energy costs higher across the U.S. economy.
The Fed's Beige Book showed inflation accelerating to 3.8% as Middle East energy costs rippled through shipping, groceries and fertilizer, while employment held steady ahead of Kevin Warsh's first policy meeting as central bank chief.
"Energy-related costs tied to the conflict in the Middle East were the primary driver of inflationary pressures, with spillovers into shipping, packaging, groceries and fertilizer," the Fed said in its Beige Book, a qualitative survey of regional business contacts published Wednesday.
The report comes as the Fed's preferred inflation gauge, the personal consumption expenditures price index, rose to 3.8% in April from 3.5% in March, remaining above the central bank's 2% target for more than five years. The dollar index held at 99.19, while interest-rate swaps price in nearly 100 basis points of tightening over the next 12 months, reflecting a dramatic shift from expectations of a rate cut earlier this year.
The data strengthens the case for the Fed to hold its policy rate in the 3.50%-3.75% range — or potentially hike — when Warsh convenes his first meeting later this month. Friday's monthly employment report is expected to show 85,000 jobs added in May and the unemployment rate steady at 4.3%, according to a Reuters poll of economists.
Energy Spillovers Spread Beyond Fuel
The Beige Book's findings show the Iran war's economic impact extending well beyond the gasoline pump. Districts reported that higher energy costs pushed up prices for shipping, packaging, groceries and fertilizer — inputs that affect nearly every sector of the economy. U.S. crude futures traded at $89.73 a barrel and Brent at $93.19 after Israel ordered troops deeper into Lebanon, reversing Friday's declines that had followed ceasefire expectations.
"Business outlooks for the next six months were reported to have little change in anticipated growth, as elevated uncertainty and signs of weakening consumer spending weighed on sentiment," the Fed said. The last time the Beige Book described such pervasive energy-driven inflation was during the 2022 commodity shock, when Brent crude averaged above $100 a barrel and the Fed embarked on its most aggressive tightening cycle in decades.
Warsh Takes the Helm Amid Policy Crosscurrents
President Donald Trump picked Warsh in late May on the expectation that he would cut rates, but has since backed off that demand as gasoline prices surged. The new chair inherits a central bank that has held rates at 3.50%-3.75% throughout this year after cutting 125 basis points in 2025 when the labor market appeared to be faltering.
The April 28-29 Fed meeting minutes showed policymakers shifting away from a shared expectation for a rate cut later this year toward a growing view that a prolonged hold — or even a hike — may be necessary. OIS markets now price nearly 100 basis points of tightening over the next 12 months, a more aggressive repricing than in the bond market, where benchmark 10-year yields have risen 37 basis points since March.
If Friday's jobs data confirms a stable labor market with 85,000 payroll additions and 4.3% unemployment, the case for the Fed to hold firm — or deliver a precautionary hike — will strengthen further, echoing the approach taken by oil-importing peers such as Indonesia and the Philippines, which have already raised rates to defend their currencies.
This article is for informational purposes only and does not constitute investment advice.
