Widening cost of conflict

AI Summary

The escalating conflict between the US and Iran has expanded into the Red Sea and Caspian Sea, involving new regional actors including Saudi Arabia’s Multinational Maritime Defence Alliance. This expansion threatens global energy security and economic stability as a large share of seaborne oil passes through critical waterways.

When a memorandum of understanding (MoU) intended to bring the Iran war to a formal close within sixty days was announced on June 14, the world, particularly Asian economies dependent on Gulf oil, breathed relief. The Strait of Hormuz, which had been largely shut to shipping since late February, seemed to be slowly reopening, and oil prices retreated from their crisis peaks. The damage the conflict had inflicted on Asian economies — on growth, household budgets, and government finances — appeared to be contained as the ceasefire, no matter how fragile, between the US and Iran spawned hopes of a lasting peace in the region, which supplies around 90 per cent of energy to the Asian economies. But, barely a month into the ceasefire, fresh hostilities broke out between the US and Iran. Though Pakistan and other mediators have kept pushing both to return to the MoU — a 14-point framework under which Washington and Tehran agreed to halt hostilities and reopen Hormuz to shipping while working through the harder questions of sanctions, Iran’s nuclear programme, and regional security over a 60-day window —, they haven’t been able to stop the war as yet. Since its resumption last month, the war is no longer contained to two countries. It has pulled in other countries from the region, as well as armed militias. The map of this war keeps getting bigger, with more actors being added. The conflict has already spilt over to the Red Sea, where Yemen’s Iran-backed Houthis are targeting Saudiflagged ships, and to the Caspian Sea, where Ukraine hit vessels carrying Iranianlinked military cargo. Riyadh has also stitched together a Multinational Maritime Defence Alliance, a 14-nation coalition announced on July 30, led by Saudi Arabia, alongside Turkey, Pakistan, and Egypt, to safeguard critical regional waterways. That expansion is the real danger now. Global institutions have already stopped treating the Iran war as a regional story. The International Monetary Fund has cut its global growth forecast, pointing to geopolitical uncertainty, tighter financial conditions and inflation risk. The World Bank puts growth below pre-pandemic norms; the Organisation for Economic Cooperation and Development flags the same softness in both advanced and emerging economies. Global institutions have already stopped treating the Iran war as a regional story The International Energy Agency, for its part, has warned that oil-market volatility tied to the war is complicating energy security and investment planning worldwide. None of these institutions is describing a contained Middle East problem; they are describing a drag on the global economy. The transmission channel is energy, and it is a fast one. The region runs a large share of the world’s energy trade — a fifth or more of all seaborne oil passes through the Strait of Hormuz alone, with Bab el-Mandeb carrying a further slice of global shipping. Any disruption to Gulf oil and gas supply pushes crude prices up, and that shows up quickly in transport costs, manufacturing costs and electricity bills everywhere. It doesn’t stop there. Higher energy costs feed into fertiliser and food production too. The World Bank has repeatedly pointed out that commodity spikes land hardest on developing economies, which is exactly the group least equipped to absorb them. Pakistan is a useful illustration of how that plays out in practice. The economy has largely escaped any unreversible impact so far. GDP growth came in at 3.7pc for FY26, the fastest pace in four years yet short of the 4pc target due to a slowdown in the fourth quarter. Finance Minister Muhammad Aurangzeb blamed the Middle East conflict for disrupting a trajectory that had otherwise been on track despite the 2025 floods and tariff uncertainty at the start of the fiscal year. A good year, undercut by a war hundreds of miles away. The State Bank’s monetary policy tells the same story from a different angle. It held its policy rate at 10.5pc through the early months of the conflict, then raised it by a full percentage point to 11.5pc in April as oil-driven inflation pushed past the central bank’s target range. Inflation has since eased down to 11.1pc in June from 11.7pc in May. The SBP has now held the rate steady for two consecutive meetings, most recently on July 27. The bank has been candid in acknowledging that another shock out of the Middle East could undo the progress quickly, given how heavily Pakistan still depends on imported energy. The external side has indeed improved. A current account deficit of just $139 million last fiscal year, and reserves sitting around $20bn, buy Pakistan more room than it had in 2022-23. It is not, however, a shield against a sustained oil-price shock. A prolonged closure of Hormuz and other chokepoints in the region would widen the trade deficit, pressure the currency and eat into the reserves that took years of discipline to rebuild. Both households and businesses are struggling with higher fuel pric