Trump Broke The Oil Market And Everyone Else Will Pay The Price

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This all makes America seem like a dangerous loose cannon - a powerful country flailing around, applying its power whimsically and indiscriminately and leaving others to suffer the consequences. But what will be the economic ramifications? Despite the drama, the damage is likely to be modest rather than catastrophic.

Economists have been studying the impact of energy shocks for a long time. As you can imagine, this was a big topic in the 1970s, when there were two big oil shocks - one related to the Yom Kippur War and the OPEC oil embargo in 1973, and the second after the Iranian revolution in 1979. Those shocks are often blamed for the 1970s“stagflation” - low growth, high unemployment, and high inflation.

In fact, after the recent post-pandemic inflation, Larry Summers posted a chart predicting a resurgence of inflation, based on little more than pattern-matching:

A lot of people laughed at this chart when it came out, but it would be darkly ironic if history actually ended up repeating itself due to another oil disruption from Iran.

I have my doubts that anything like this will happen, though. For one thing, some economists, like my econometrics teacher Lutz Killian, vigorously dispute this narrative, and claim that the 70s inflation wasn't caused by oil at all. But regardless of who's right about the 1970s, it looks like modern economies are just more resilient to disruptions in oil supplies.

Blanchard and Gali (2007) looked at economic responses to changes in oil prices in the US,[2] and concluded that the economy of the 2000s was only about a third to half as sensitive to the price of oil as the economy of the 1970s had been. Their reasoning is that modern economies are more flexible in general, that they have better monetary policy (i.e. we don't try to print a ton of money in response to a supply shock), and that we depend on oil less.

By their estimates, a 10% increase in the price of oil now (or at least, if“the 2000s” means“now”) leads to only a 0.25 percentage point increase in the CPI and a 0.3 percentage point reduction in GDP over the course of a year or so.

Since oil just spiked by 50%, then if that's sustained, we might expect to see inflation go up by 1.25 percentage points, and GDP go down by 1.5 percentage points over the next year. That would mean inflation would go to around 4% and GDP growth might go down to 1.5% - frustrating and annoying, but not catastrophic.

Other estimates seem similarly modest. For example, in a recent roundup, I flagged a paper by Känzig and Raghavan (2025) that looked at the closure of key shipping chokepoints. Here was their chart showing the predicted response to a 10% increase in shipping costs caused by the closure of a key waterway:

Now note that shipping costs haven't even increased since the start of the Iran war. That implies relatively little shock from shipping disruption. Inflation expectations have risen only a tiny bit in survey measures, and market measures so far show no expected increase in inflation over the next one or two years.

So if you were worried that the Iran war was going to collapse the economy, I think you can relax. 4% inflation and growth cut in half for a year are no fun, but they're not a calamity either.

That said, there are several reasons to worry a bit. First of all, 4% inflation and growth cut in half feel like a self-inflicted wound - another self-inflicted wound, after the madness of tariffs. Americans are already in an incredibly bad mood about the economy. Consumer sentiment is absolutely in the dumps:

And people say it's a bad time to find a job:

The negative trend began in the Biden years, and voters definitely blamed Biden at the time. But now they're blaming Trump, and it's clear that the Iran war made approval of Trump's economic policy fall off a cliff:

Even if some of this is AI-related, it seems clear that voters don't like Trump piling self-inflicted wounds on top of all the underlying risks.

Americans also expect gasoline prices to stay high over the next few years. Political scientists have found that the American public tends to be especially sensitive to gasoline prices, even above and beyond general inflation. So more expensive gas could absolutely cause a further souring of the mood in this country.

(Note, by the way, that“Trump's approval rating goes down” is not bad in and of itself - in fact, I'm glad more people are finally waking up to what a horrible leader Trump is. But I do not want Americans to feel sad and angry and afraid about their economy. It's not worth wishing for bad things to happen just so there will be a backlash against politicians I don't like.)