The rapid surge in oil prices triggered by Middle East tensions is reshaping market expectations for the path of US inflation. While most analysts believe a sustained shock is the real threat, the near-term inflationary push from rising energy prices is almost certain to materialize in March's data.

According to Wind Information, a report released by Citi on March 9th shows that as of March 8th, the US average retail gasoline price had increased by approximately 17% cumulatively since the end of February. Based on this, Citi has set its assumption for the monthly average gasoline price increase in March at around 15%, anticipating this will drive the overall CPI energy component to rise by about 7% month-on-month.

The lagged effects on airfare and core goods will reflect the second wave of oil price impact on inflation in the second quarter. Citi forecasts airfare to increase year-on-year by roughly 10% to 15% by mid-year, with core goods prices also facing upside risks in Q2. Concurrently, it predicts core CPI rose 0.23% month-on-month in February, and core PCE increased 0.37% month-on-month in January (inflation risks from rising oil prices were not significant in February's data).

Bank of America provides a longer-term historical perspective. According to its research report from March 6th, data from the past 50 years indicates that only "significant and sustained" oil price spikes trigger lasting inflation cycles. The current market expectation for the inflation path is a short-term rise followed by long-term stability.

**Gasoline and Utilities: The Fastest Transmission Channels**

The pass-through of rising oil prices to inflation shows a clear sequence over time, with gasoline prices being the most responsive element. Citi forecasts the overall energy component to rise about 7% month-on-month in March, directly lifting CPI. Regarding utility prices, while natural gas prices have risen with the Middle East situation, the increase within the US is far less pronounced than in Europe.

Historical patterns show that the pass-through of natural gas prices to the gas utility component in CPI lags by about one month, suggesting related pressures might only become apparent in April's CPI data.

Bank of America estimates that every 10% increase in oil prices will boost PCE inflation by approximately 10 basis points in the near term. However, as higher oil prices dampen demand for other goods and services, this effect gradually dissipates over about a year. The drag on consumer spending is roughly equivalent to the inflationary boost, also around 10 basis points.

**Airfare and Core Goods: The Transmission Chain Extends Deeper**

If oil prices remain elevated, inflationary pressures will seep into core inflation components, with airfare being the most sensitive transmission node. Citi research notes that jet fuel prices have risen sharply recently due to supply constraints caused by the Middle East situation. Airfare typically lags jet fuel price movements by 1 to 3 months, and substantial airfare increases only materialize after jet fuel prices remain high for several weeks.

Citi has slightly raised its near-term airfare price expectations, projecting year-on-year airfare increases of about 10% to 15% by mid-year, while also anticipating a potential narrowing of the usual seasonal price decline in the second quarter of this year.

Regarding core goods prices, Citi believes that, against a backdrop of limited new tariffs recently, upward pressure on goods prices was originally expected to ease in the coming months. However, rising energy costs have significantly increased the risk of further strengthening in goods prices around the second quarter. Citi states that if PPI goods prices continue strong growth for another month or two, it would likely prompt an upward revision to its core goods forecasts within both CPI and PPI.

**Inflation Expectations: Short-End Rising, Long-End Relatively Stable**

The trajectory of inflation expectations is crucial for Federal Reserve policy judgment. Current market reactions show a divergent pattern: rising at the short end but stable at the long end. Citi points out that short-term market inflation expectations have already risen with gasoline prices, and short-term consumer inflation expectations may follow. However, the market-based 5-year/5-year forward inflation expectation has recently declined, reflecting market expectations for slowing economic growth and a weaker labor market.

Bank of America's research corroborates this view. Its analysis shows that over the past 50 years, market inflation expectations have shown high-frequency sensitivity to oil prices, but in most oil price surge events, the rise in inflation expectations failed to persist. Only a few cases, such as the post-COVID period combined with the Russia-Ukraine conflict, and the 1999 OPEC production cuts, led to lasting repricing of expectations.

**Long-Term Inflation Path: Labor Market is the Key Variable**

Regardless of how the current oil price shock ultimately unfolds, both Citi and Bank of America emphasize that labor market conditions are the core constraint determining whether inflation increases can be sustained. Citi notes that a weaker labor market would limit companies' ability to raise prices, making the secondary pass-through effect of this oil price shock on core inflation weaker than during the post-COVID inflation cycle.

Their latest projections show core PCE rising around 3.0% year-on-year in the first quarter of this year, gradually declining thereafter, and potentially falling to about 2.4% by the end of 2026—still above the Fed's 2% policy target.

In this context, Bank of America believes the Fed is highly likely to maintain a hold stance in the short term. If the oil price shock is limited in scale and duration (below $100/barrel and lasting less than six months), the Fed tends to look through energy price volatility temporarily.

However, if the shock persists and strengthens, the risk of stagflation—simultaneously high inflation and slowing economic growth—would put the Fed in a dilemma, potentially pushing the window for interest rate cuts further back.