The next four weeks will determine whether Europe's economy, hit by a sudden 50% surge in natural gas prices in just one day, is facing a new crisis or merely a bump on its path to recovery. If the geopolitical conflict between the U.S., Israel, and Iran escalates into a prolonged military standoff, it could severely disrupt the eurozone's fragile recovery and reawaken energy-driven inflation, which the European Central Bank has worked hard to contain in recent years. This could bring back the energy and cost-of-living crises that plagued the region four years ago.
Having cut ties with cheap Russian energy, Europe has become increasingly reliant on Middle Eastern energy supplies, particularly natural gas from Qatar. A protracted conflict in the region that keeps oil and gas prices elevated could force governments to increase spending to shield citizens from soaring energy costs, potentially putting current leaders under significant pressure.
U.S. President Donald Trump has stated that military strikes against Iran, which have already resulted in the death of Iran's Supreme Leader Ayatollah Ali Khamenei, could last up to four weeks. These strikes have triggered strong retaliatory actions from Iran, including attacks on Israel and U.S. military bases across the Middle East, driving up energy costs and effectively halting shipments through the Strait of Hormuz.
As President Trump vows to continue military operations until objectives are met, and as conflict spreads to other Middle Eastern economies—such as Iranian drone and missile attacks on key U.S. infrastructure in Dubai, Abu Dhabi, Bahrain, and Kuwait, and renewed rocket fire from Lebanon into Israel—the unpredictable geopolitical turmoil and potential ripple effects from rising oil prices are giving fund managers new reasons to sell risk assets like stocks and seek refuge in traditional safe havens such as gold, the U.S. dollar, and commodities like oil and natural gas, which are expected to benefit from Middle Eastern instability in the short term.
On Monday, the S&P 500 closed nearly flat after recovering from earlier steep losses. Traders are still assessing the potential financial market impact of escalating Middle East tensions, which have already driven up Brent crude, the international oil benchmark. Due to risks of military strikes on commercial vessels, the complete halt of crude and LNG shipments through the Strait of Hormuz, and disruptions at a major Saudi Arabian refinery, energy markets are facing severe supply-side shocks, pushing oil prices higher. Brent crude futures rose about 6.7%, settling near $78 per barrel, marking the largest single-day gain since June of last year.
The duration of the conflict will determine the extent of pressure on Europe's economy. A prolonged military campaign against Iran could undermine the eurozone's budding recovery and rekindle inflationary pressures. According to Carsten Brzeski, a senior analyst at ING, the eurozone is "the most exposed major economy to spillover risks from Middle East geopolitics" due to its reliance on oil and gas from the region.
Antonio Barroso and Simona Delle Chiaie, macro strategists at Bloomberg Economics, noted that if the conflict is short-lived and energy prices rise only temporarily, the damage would be limited. However, if the U.S.-Israel-Iran military engagement drags on, keeping oil and gas prices high, governments may be forced to increase spending to protect voters from rising costs—a situation that could also put incumbent leaders under pressure.
As shown in the accompanying chart, higher energy costs would significantly impact the eurozone's growth and inflation trajectory. Earlier this year, Europe's economic outlook appeared positive. Increased government spending in Germany and other core eurozone countries, along with reasonably priced natural gas trends, were expected to support moderate economic expansion and inflation close to the ECB's 2% target. However, the escalation in Iran comes amid renewed trade tariff uncertainties, following a Supreme Court ruling that overturned President Trump's initial global tariff measures.
Few economists currently fear that the eurozone will veer off its recovery and disinflation path. Holger Schmieding, chief economist at Berenberg, continues to base his oil price outlook on an average of $65–70 per barrel, describing the recent surge as likely "short-term in nature." He expects President Trump to take measures to prevent sustained energy price increases, as high consumer prices, particularly energy costs, have already drawn voter criticism ahead of the U.S. election.
Iran also has strong incentives to avoid escalating tensions in the Strait of Hormuz, a critical passage for about one-fifth of global seaborne oil and gas shipments. Edoardo Campanella, an economist at UniCredit, suggested that China, which heavily depends on this route for oil imports, would likely pressure Tehran to avoid endangering shipping lanes.
How will energy and geopolitical risks affect Europe's growth, inflation, and policy outlook? According to macro strategists at Bloomberg Intelligence, U.S. and Israeli strikes on Iran and Tehran's retaliation have already pushed oil prices from around $65 per barrel before the escalation to nearly $80. If Strait of Hormuz supply disruptions persist, prices could exceed $100. European natural gas prices have also surged, with further upside risks if the conflict intensifies. Modeling these scenarios suggests that consumer price inflation would rise in major advanced economies, while GDP would decline, creating conflicting signals for central banks.
Although European Central Bank Governing Council members Gabriel Makhlouf and Martin Koch recently stated that it is too early to assess the economic impact of the military strikes, Belgian Central Bank Governor Pierre Wunsch outlined potential negative consequences of a prolonged conflict. He emphasized that while he would not rush to react to short-term energy price fluctuations, a prolonged conflict with higher energy prices would require careful modeling to understand the full impact.
ECB Chief Economist Philip Lane stated that the central bank is "closely monitoring developments," referencing staff simulations showing that energy supply disruptions from Middle East conflicts could lead to a sharp rise in energy-driven inflation and a significant drop in economic output. Governor Wunsch added that, although the European economy would likely suffer, rising commodity costs would ultimately result in a net inflationary effect.
Earlier in the day, traders significantly reduced bets on further ECB rate cuts this year. They are closely watching European natural gas price trends, which spiked as much as 54% after Qatar suspended operations at one of the world's largest oil and gas export facilities due to debris from intercepted missiles falling on its energy infrastructure following Iranian drone strikes on U.S. bases.
The timing is particularly unfortunate for Europe. With gas storage levels unusually low and households heavily dependent on imports, the region must import and stockpile large volumes of LNG this summer to refill storage before next winter. According to Morgan Stanley estimates, a sustained $10 per barrel increase in oil prices would raise eurozone inflation by 0.4 percentage points and reduce economic growth by 0.15 percentage points.
For now, early energy market movements do not appear to pose a substantial risk to eurozone growth or inflation prospects. Much depends on how long the U.S.-Israel-Iran conflict lasts and how prolonged the disruption to oil shipments through the Strait of Hormuz—which handles about one-fifth of global oil consumption—will be. A recent ECB projection indicated that inflation would remain below the 2% target until 2028, while economic growth would accelerate from 1.2% in 2026 to 1.4% next year.
Most economists do not view the current oil price increase as a permanent structural shift. Tobias Basse, an economist at NordLB, noted that investors remain cautious, pricing in a relatively short-lived geopolitical conflict. Germany's benchmark DAX index, currently at 24,638 points, remains focused on the psychologically significant 25,000 level.
Asset management giant BlackRock shares a similar view. Karim Chedid, Head of Investment Strategy for EMEA at BlackRock, stated that markets and clients see the oil price surge as a temporary volatility shock rather than a long-term supply disruption—a critical distinction. He emphasized that this is not an event likely to cause a seismic shift in inflation expectations.