Fed Faces Toughest Test Yet: Can It Look Past Iran Conflict Oil Prices?

The ongoing conflict in Iran is putting pressure on oil prices and testing the Federal Reserve's patience. Oil prices have stayed above pre-war levels and surpassed $90 after renewed fighting this week, making it harder for the Fed to 'look through' energy shocks as they typically do.

Inflation has retreated significantly from pandemic highs but remains stubbornly above 2%, with core measures also firmer than expected. Energy prices aren't the only concern, as the massive artificial intelligence build-out is pushing up prices for skilled labor and computer chips used in consumer goods.

Fed officials are divided on whether to raise interest rates, with some arguing it's time to act decisively to address inflation. Treasury Secretary Scott Bessent believes recent data shows a supply shock and suggests waiting for further evidence before acting.

However, others, including Fed governor Michael Barr, think rates may need to increase unless new data shows price pressures easing. Markets are pricing in around 66% odds of a quarter-point rate hike at the next meeting, according to CME FedWatch.