The escalating situation between the US and Iran has sparked concerns about inflation! Market bets on the probability of a rate hike by the Federal Reserve in July continue to rise.

Although futures traders and market forecasters currently generally expect the Fed to stand pat at the July meeting, the likelihood of the central bank taking action is increasing. On Monday, market bets on a Fed rate hike continued to rise. According to the CME Group's "FedWatch" tool, the market currently expects a 46.5% probability of the Fed raising rates by 25 basis points on July 29, higher than the 34% probability last Sunday. On the prediction market platform Kalshi, traders currently expect a 36% probability of a Fed rate hike, higher than the level of less than 20% last Sunday and significantly higher than the probability of less than 10% earlier this month. The heating up of market expectations for a Fed rate hike comes as U.S. President Trump announced the re-implementation of a blockade near the Strait of Hormuz on Iranian ports and the imposition of a 20% transit fee on all goods passing through the strait. With tensions between the U.S. and Iran escalating recently, international oil prices have risen again, intensifying concerns about inflation remaining high and forcing the Fed to raise rates. Therefore, investors will closely watch key inflation data such as the U.S. June Consumer Price Index (CPI) and wholesale prices about to be released. This will be the last batch of inflation data released by the Fed before the slightly later interest rate meeting held this month, providing important clues for assessing future interest rate prospects. Economists expect the overall CPI for June and the core CPI excluding food and energy prices to show a slight slowdown compared to May - the overall CPI for June is expected to rise by 3.8% y/y, lower than the 4.2% y/y in May - but both indicators are still significantly higher than the Fed's 2% inflation target. Against the backdrop of escalating U.S.-Iran tensions and continuing rise in oil prices, the outlook for inflation may become more complex. A research report released by Barclays on Monday suggests that current concerns about inflation in the market are not limited to energy prices alone. Barclays' Global Head of Research, Ajay Rajadhyaksha, stated that the cost pass-through effects of oil price shocks have not ended, and high energy prices have not led to a significant decline in demand but have instead further exacerbated inflationary pressures. He also noted that price increases driven by artificial intelligence (AI) are further worsening the inflation outlook. Rajadhyaksha wrote, "These factors together create a situation where the Fed may have to adopt an increasingly hawkish policy stance. A data-dependent policy framework means the Fed must react not only to published inflation data, but also to future inflation forecasts." "The inflation data to be released in the coming months will probably not look good." Furthermore, Fed Chair Powell will testify before congress on Tuesday and Wednesday, when Fed watchers will closely watch his views on inflation, labor market, economic growth, and how these factors interact with interest rates. However, based on his recent public appearances, these observers are likely to gain little insight. Powell has pledged to abandon the Fed's so-called "forward guidance" on rate paths. During the first press conference on June 17th, he evaded questions on multiple related issues. For example, when asked how much patience decision-makers have in waiting for inflation to fall, he responded, "Your question sounds like you're encouraging me to give forward guidance." Fed Governor Christopher Waller said on Monday that the current inflation situation in the U.S. is still worrying, but the Fed should not rush to raise rates again by learning from the lesson of lagging inflation response in 2021. More economic data should be awaited to assess the inflation trend and its underlying drivers. Speaking at a speech in New York that day, Waller said that current inflation pressures are not only coming from tariffs and rising energy prices, but are also influenced by factors such as demand expansion driven by AI investment, which is also an important reason why inflation continues to be above the Fed's 2% target. However, he emphasized that the Fed needs to avoid "falling into the same trap." Waller said, "I am fully aware of the mistakes we made in not responding timely to high inflation in 2021, and am determined to avoid making the same mistakes again. But that doesn't mean we should raise rates immediately in the face of current inflation pressures." Waller believes that there are still "good reasons" to believe that inflation will gradually ease in the future, but there is also a "completely reasonable" scenario where inflation remains high or even rises further, requiring further tightening of monetary policy in the short term. He pointed out that the Fed is currently assessing multiple factors driving inflation, including tariff policies implemented in 2025, rising energy prices due to the situation in the Middle East, and demand spillover effects from AI investment. "We cannot tighten policy too early just because our previous actions were slow, nor can we repeat the mistakes of 2021 and 2022, and act too late in responding to inflation." Waller believes that compared to the previous round of inflation, the Fed now has two favorable conditions: first, the labor market remains robust and has not become a major source of inflationary pressure; second, long-term inflation expectations overall remain stable, at least as indicated by market indicators showing public confidence in long-term inflation. Despite this, he warned that policymakers should not be complacent. Waller stated, "I often hear people say that as long as inflation expectations remain stable, the central bank does not need to respond to inflation above the target level. This view is wrong. Simply focusing on inflation and hoping it will fall on its own is not a feasible policy choice."