Geopolitical tensions from the Iran war are raising alarms on Wall Street, with top economists warning that inflationary pressures could force the Federal Reserve into aggressive rate hikes.
Inflation Fears And ‘Economic Damage’
The economic toll of the Iran war is extending far beyond rising commodity prices. According to Mark Zandi, chief economist at Moody’s Analytics, surging interest rates—highlighted by the 10-year Treasury yield jumping to 4.6%—reflect a rapidly shifting landscape.
Zandi warns that the war is actively driving up inflation expectations. “Nothing spooks the Fed more than unmoored inflation expectations,” Zandi stated, noting this is how high inflation becomes entrenched.
He cautioned that the Fed will inevitably raise rates until expectations cool, “regardless of the hit to the broader economy.” Policymakers rightfully fear that inaction will cause inflation to “metastasize,” ultimately requiring even higher rates and an even “weaker economy” to rein it back in.
Looming July Rate Hike
Echoing the sentiment that the Fed must aggressively act, prominent market watcher Ed Yardeni anticipates an imminent policy shift. Yardeni noted on CNBC that recent CPI and PPI data suggest the Fed is currently “behind the curve” on inflation.
To course-correct, Yardeni expects the central bank to completely drop its easing stance and adopt a “tightening bias” at its upcoming June meeting, followed by a 25-basis-point rate hike in July.
“I think the bond market is calling for that,” Yardeni explained, pointing to the two-year Treasury yield at 4.1% as a leading indicator that the current federal funds rate is simply too low.
Market Broadening Amid Geopolitical Tensions
Despite the threat of a prolonged conflict and tighter monetary policy, the expert sees underlying resilience for equities.
Yardeni actually welcomes a stock market “pause,” suggesting it paves the way for a “healthy broadening” of the market beyond just the technology sector.
Even with a tense Middle East “status quo,” Yardeni expects corporate earnings to grow without triggering a severe bear market pullback.
What Do Broader Market Participants Expect?
As the 10-year Treasury bond yielded 4.60% and the two-year bond was at 4.07%, the CME Group’s FedWatch tool‘s projections show markets pricing in a 98.8% likelihood that the Federal Reserve will leave interest rates unchanged at its June meeting.
However, the CME tool was also projecting no probability of a change at 94.6% for the July meeting, and only 19.5% chance of a hike in September.
How Have Markets Performed In 2026?
The S&P 500 index has advanced 7.94% year-to-date. Similarly, the Nasdaq Composite index was up 12.29%, and the Dow Jones gained 2.69% YTD.
The SPDR S&P 500 ETF Trust (NYSE:SPY) and Invesco QQQ Trust ETF (NASDAQ:QQQ), which track the S&P 500 and Nasdaq 100, respectively, closed lower on Monday. The SPY was down 0.070% at $738.65, while the QQQ declined 0.43% to $705.88.
Meanwhile, Dow tracker, State Street SPDR Dow Jones Industrial Average ETF Trust (NYSE:DIA), rose 0.33% to close at $497.01 on Monday.
Disclaimer: This content was partially produced with the help of AI tools and was reviewed and published by Benzinga editors.
Photo courtesy: Shutterstock
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