By Ricardo Lezama 
Yesterday on June 21st of 2025, President Donald Trump , a self styled autocrat, made a decision without constitutional approval that will reverberated through global markets and trickle down into people’s personal well being. Namely, the impact will be felt through Stagflation.
Following weeks of escalating tensions between Israel and Iran, Trump announced that the United States had “completely and totally obliterated” Iranian nuclear facilities, marking a major escalation in Middle Eastern conflict. This military action, targeting three key nuclear sites including Fordow, Natanz, and Esfahan, has profound implications for an already fragile U.S. economy grappling with the specter of stagflation—a toxic combination of stagnant growth and persistent inflation that has haunted policymakers since early 2025.
While usually I view Farid Zakaria‘s empire boot licking positions as not worth invoking, the CNN analyst did provide great insight regarding Trump‘s possible motivation: FOMO. The analyst media personality noted that Trump was likely afraid of not joining in on a potentially easy win however, the consequences do not appear well thought out as there are two potential scenarios already well documented by Middle East observers. The first is that Iran’s regional response could be devastating to oil markets. The second more social and personal to the average European or American is that reprisal from the regime would come in the form of irregular attacks in civilian and military installations, causing great damage panic, and a threat index to the average person far beyond what either military force is capable of protecting
The confluence of military intervention in Iran and emerging stagflationary pressures represents a perfect storm that could fundamentally reshape America’s economic landscape. As the Federal Reserve wrestles with contradictory economic signals and maintains its cautious stance on interest rates, the bombing of Iran introduces new variables that complicate an already challenging monetary policy environment.
The Stagflation Specter: A Growing Reality
Even before the Iranian strikes, the U.S. economy was showing troubling signs of stagflation—a phenomenon not seen since the 1970s. Fed officials now project median PCE inflation rising to 3% in 2025, higher than previous forecasts, while unemployment is expected to climb to 4.5%. This represents a concerning departure from the typical economic relationship where inflation and unemployment move in opposite directions. Amongst young people, unemployment is far greater, hovering past 6 percent.
The Federal Reserve’s June 2025 projections paint a sobering picture. The central bank’s latest outlook spells out a stagflationary environment resulting from import duties, with inflation heading higher even as overall growth trends lower. Economic growth forecasts have been repeatedly revised downward, with the rate-setting Federal Open Market Committee downgrading its collective outlook for economic growth to 1.7%, down from the last projection of 2.1% in December.
The root causes of this stagflationary pressure are multifaceted. As Powell noted after the 2025 tariffs were adopted, “Higher tariffs will be working their way through our economy and are likely to raise inflation in the coming quarters”. The Trump administration’s aggressive tariff policies have created a dual threat: raising consumer prices while simultaneously dampening economic growth through increased business uncertainty and reduced investment.
The Federal Reserve’s Predicament
The Federal Reserve finds itself in an unprecedented bind. Traditional monetary policy tools become largely ineffective in a stagflationary environment because policy solutions for slow growth tend to worsen inflation, and vice versa. That makes stagflation hard to fight. The central bank has maintained interest rates in the 4.25%-4.5% range for four consecutive meetings, reflecting this policy paralysis.
During a news conference, Federal Reserve Chairman Jerome Powell suggested there is time to wait for more clarity. “For the time being, we are well positioned to wait to learn more about the likely course of the economy before considering any adjustments to our policies,” Powell said. This cautious approach, while prudent given the uncertainty, also reflects the Fed’s limited options when faced with simultaneous inflationary and recessionary pressures.
The Fed’s reluctance to cut rates stems from legitimate concerns about inflation expectations. As economist Şebnem Kalemli-Özcan noted, “if Jay Powell sees those expectations are elevated, but at the same time the data shows that inflation is not going down, we are having a sticky inflation, then obviously they are going to increase the interest rates”. However, raising rates in an environment of slowing growth risks triggering the very recession the Fed seeks to avoid.
The Iranian Conflict: Economic Implications
The U.S. military strikes on Iranian nuclear facilities add a new dimension of complexity to an already precarious economic situation. President Donald Trump said Iran’s nuclear enrichment facilities had been “completely and totally obliterated” after U.S. warplanes carried out strikes on three nuclear sites in the country. This dramatic escalation carries significant economic ramifications that extend far beyond the immediate military objectives.
Energy Market Disruption
Military action in the Persian Gulf region historically triggers volatility in global energy markets. Iran’s position as a major oil producer and its strategic control over the Strait of Hormuz—through which approximately 20% of global oil shipments pass—makes any conflict in the region economically consequential. Even before the strikes, oil prices had been a significant contributor to inflationary pressures, and military action threatens to exacerbate this trend.
The energy market impact of Middle Eastern conflicts has precedent in contributing to stagflationary conditions. The term gained far wider prominence during the 1970s oil crisis when OPEC’s embargo triggered a dramatic increase in energy prices in the U.S. Current geopolitical tensions, combined with an active war involving major oil-producing regions, create similar conditions that could drive energy costs substantially higher.
Supply Chain and Trade Disruptions
Beyond energy, the Iranian conflict threatens to disrupt global supply chains already stressed by ongoing trade tensions and tariff policies. The Middle East serves as a crucial transit point for international trade, and military action in the region can significantly impact shipping routes and costs. These disruptions compound existing inflationary pressures from tariffs and other trade restrictions.
The psychological impact on markets cannot be understated. As noted by experts, “uncertainty, in and of itself, is a drag on economic growth. Businesses may react by not hiring, not expanding production, not making investments and otherwise waiting for the forecast to change”. The Iranian strikes introduce a new level of geopolitical uncertainty that could further dampen business investment and consumer confidence.
Defense Spending and Fiscal Policy
Military operations require significant financial resources, potentially influencing fiscal policy at a time when the federal budget is already under strain. Interest on the debt is on track to total $1.2 trillion this year and exceeds all other budget items except Social Security and Medicare. Additional defense spending related to Middle Eastern operations could further pressure the federal budget deficit, which is already approaching $2 trillion annually.
The fiscal implications extend beyond immediate military costs. Sustained conflict in the Middle East typically requires ongoing commitments to regional security, intelligence operations, and potential reconstruction efforts. These expenditures occur at a time when the government’s fiscal flexibility is already constrained by high interest rates and substantial debt service obligations.
The Fed’s Impossible Choice
The combination of stagflationary pressures and military conflict in Iran places the Federal Reserve in an extraordinarily difficult position. The central bank must navigate between competing priorities: supporting economic growth in a slowing economy while preventing inflation from becoming entrenched, all against the backdrop of geopolitical instability.
Interest Rate Policy Paralysis
The dot plot shows that FOMC members are divided on where interest rates are going, with seven of the 19 members seeing interest rates remaining unchanged at 4.25% to 4.5% throughout the rest of the year. This division reflects the genuine uncertainty facing policymakers as they weigh conflicting economic signals.
Cutting interest rates to support growth risks validating inflation expectations and making price pressures more persistent. However, maintaining high rates in a slowing economy could trigger a recession that would be particularly painful given elevated unemployment and reduced business investment. The Iranian conflict adds another layer of complexity by potentially driving energy costs higher while simultaneously dampening economic activity through increased uncertainty.
Credibility and Expectations Management
Central bank credibility is essential to keep inflation expectations in line, as lessons from the 1970s stagflation episode demonstrate. The Fed’s challenge is maintaining this credibility while adapting to rapidly changing circumstances. The Iranian conflict tests the central bank’s ability to maintain market confidence in its inflation-fighting commitment while remaining responsive to economic conditions.
The market’s reaction to Federal Reserve communications has become increasingly sensitive. Following recent economic data, the S&P 500 is now 9% below its February 19 high, reflecting investor uncertainty about both economic fundamentals and policy responses. Clear communication from the Fed becomes crucial in preventing market volatility from amplifying economic instability.
Economic Parallels to the 1970s
The current situation bears uncomfortable similarities to the stagflationary episode of the 1970s, when the United States faced the dual challenge of economic stagnation and persistent inflation. Stagflation was last a major issue for the U.S. economy in the 1970s as the country contended with the economic fallout of the Vietnam War, the loss of manufacturing jobs and spikes in oil prices.
Today’s parallels are striking: military engagement in a strategically important region, supply chain disruptions, energy price volatility, and policy-induced uncertainty. However, important differences exist. The current Federal Reserve has more sophisticated tools and greater understanding of inflation dynamics than its 1970s predecessors. Additionally, the U.S. economy’s structure has evolved significantly, with services playing a larger role and manufacturing representing a smaller share of economic activity.
Lessons from History
The 1970s experience offers both warnings and guidance for current policymakers. The episode changed how the Fed and other central banks dealt with inflation, namely by seeing it and thus the specter of stagflation as having priority in their efforts over employment. This lesson suggests that the current Fed may ultimately prioritize inflation control over growth support if forced to choose.
However, the political and social context differs significantly. The 1970s featured sustained military engagement in Vietnam, major demographic shifts, and fundamental changes in global economic relationships. Today’s challenges, while serious, occur in a different institutional and economic environment that may provide more policy flexibility.
Market and Investment Implications
The combination of stagflation risks and Middle Eastern conflict creates a challenging environment for investors and businesses. In a stagflationary environment, traditional assets like stocks and bonds may underperform, forcing investors to reconsider portfolio allocations and risk management strategies.
Asset Class Performance
Different asset classes respond variably to stagflationary pressures combined with geopolitical stress. Surging interest in gold, which hit another all-time high on Wednesday, suggests some investors are worried, as gold is one of a handful of assets that hold their value in a stagflationary environment. Commodities generally, including energy and agricultural products, tend to perform better during inflationary periods.
Equity markets face particular challenges in this environment. Corporate profits decline as input costs rise and consumer demand weakens, leading to increased volatility and reduced equity valuations. The technology sector, which has driven much of the recent market performance, may be particularly vulnerable to both higher interest rates and reduced consumer spending.
Business and Consumer Impact
For businesses, the combination of stagflation and geopolitical instability creates a perfect storm of challenges. Employers are less likely to hire or increase pay during economic stagnation, while simultaneously facing higher input costs from both inflation and supply chain disruptions.
Consumers bear the brunt of these pressures through a combination of higher prices and reduced economic opportunities. In short, stagflation can squeeze your finances from multiple angles—costs go up, income growth slows, and investment returns become harder to come by. The Iranian conflict adds energy price volatility to this already challenging mix.
Policy Responses and Alternatives
Addressing the twin challenges of stagflation and geopolitical conflict requires coordination between monetary and fiscal policy, along with diplomatic efforts to stabilize regional tensions. The Federal Reserve’s tools, while powerful, have limitations in addressing supply-side inflation and geopolitical risks.
Fiscal Policy Coordination
The solution here is really not the Fed, but it is not having these type of uncertain policies coming from the administration, as economist Şebnem Kalemli-Özcan noted. Fiscal policy clarity, particularly regarding trade and military commitments, could help reduce the uncertainty that contributes to stagflationary pressures.
Targeted fiscal measures might include strategic petroleum reserve releases to moderate energy prices, infrastructure investments to improve supply chain resilience, and selective tariff reductions to ease inflationary pressures. However, these measures must be balanced against the need to maintain fiscal discipline given high debt levels and interest costs.
Monetary Policy Innovation
The Federal Reserve may need to consider unconventional approaches if traditional tools prove inadequate. This could include more explicit forward guidance about inflation tolerance, sectoral interventions to address specific supply chain bottlenecks, or coordination with international central banks to address global economic spillovers from the Iranian conflict.
Bomb, Bomb, Bomb Iran
The bombing of Iranian nuclear facilities by the United States on June 21, 2025, that amplifies existing stagflationary pressures in the U.S. economy. The Federal Reserve’s cautious approach to interest rate policy, while understandable given the complex economic environment, reflects the genuine difficulty of managing monetary policy in the face of supply-side inflation and geopolitical instability.
Stagflation is a more pronounced risk than at any time over the past 40 years, according to economists, and the Iranian conflict adds another layer of complexity to an already challenging situation. The combination of persistent inflation, slowing growth, and military engagement in a strategically crucial region creates economic conditions reminiscent of the 1970s but occurring in a fundamentally different global context.
The path forward requires careful coordination between monetary, fiscal, and foreign policy. The Federal Reserve’s gun-shy approach to rate cuts reflects legitimate concerns about inflation expectations and policy effectiveness in a stagflationary environment. However, policymakers must also recognize that prolonged uncertainty and inadequate policy responses could transform temporary stagflationary pressures into a more persistent economic condition.
Success in navigating this challenge will depend on the Fed’s ability to maintain credibility while adapting to rapidly changing conditions, the administration’s capacity to provide clear policy direction and diplomatic leadership, and the economy’s resilience in the face of unprecedented dual pressures. The stakes could not be higher: failure to address these challenges effectively risks condemning the United States to a prolonged period of economic stagnation and social strain not seen in nearly half a century.