The Federal Reserve's March meeting decision aligned with prior expectations, maintaining interest rates unchanged and pausing any reductions. This decision was primarily influenced by the escalating situation in the Middle East. A sudden conflict in March triggered a sharp rise in international oil prices, which surged from a pre-conflict level of $73 per barrel to $119 per barrel at one point. As the lifeblood of industry, a significant increase in oil prices inevitably pushes up global inflation, particularly having a direct impact on inflation in the United States.
The Federal Reserve's monetary policy has two main objectives: preventing inflation and maintaining full employment. Given the strong inflation expectations, the Fed had little choice but to pause rate cuts and adopt a wait-and-see approach. Post-meeting comments from Chair Powell indicated that future decisions on rate cuts will depend on developments in the international situation and price performance.
Over the past few months, US non-farm payroll data has been underwhelming. However, for the Fed, the priority remains controlling inflation. Powell has consistently maintained a cautious stance. Despite significant pressure from former President Trump last year to accelerate rate cuts, Powell resisted, adhering to his own pace in an effort to preserve the Fed's monetary policy independence and avoid political interference. The Federal Reserve acts as the world's central bank and is not entirely a US government entity. Its monetary policy decisions influence central banks globally. If the Fed Chair were to simply follow presidential orders on rate cuts, the institution would risk becoming a political tool, losing its independence and dealing a severe blow to the credibility of the US dollar. Therefore, Powell has upheld his own judgment despite immense pressure.
Chair Powell's term concludes in May of this year, and he is expected to be succeeded by Kevin Warsh, a new Fed Governor nominated by President Trump. Warsh has a historical reputation for hawkish rhetoric. Investors are concerned that under his leadership, the Fed might engage in balance sheet reduction to absorb liquidity, although an interest rate hike is considered unlikely, as Trump would not nominate someone completely opposed to his directives. It is anticipated that under Warsh, the Fed may opt for rate cuts at an opportune time, potentially as early as June or possibly delayed until the end of the year, depending on the duration of the Middle East conflict and how long international oil prices remain elevated.
Iran has blockaded the Strait of Hormuz, a critical chokepoint for global oil shipping, controlling 20% of the world's oil trade and transport. As long as the Strait remains closed, international oil prices are likely to stay high. While Trump has organized a multinational fleet to escort vessels through the Strait, doubts persist about effectively mitigating security risks. Commercial shippers remain wary of potential escort failures and the catastrophic loss of tankers. Insurance coverage for vessels transiting the Strait has already been withdrawn by insurers due to the excessive risk.
The uncertain outlook for the Middle East and sustained high oil prices significantly influence the Fed's monetary policy decisions. The decision to hold rates steady was in line with market expectations, thus having a limited immediate market impact. However, the Fed's status as the world's central bank means its pause on rate cuts may discourage other central banks from implementing liquidity easing or rate reductions, creating an overall negative effect on global capital markets.
Recent significant adjustments in the A-share market are attributable to increased uncertainty from the Middle East conflict and concerns over the Fed's steady rates, which dampen expectations for further monetary easing. These factors are impacting short-term market performance. International gold prices have reacted sharply, with a recent substantial decline largely reflecting the market's response to the delayed Fed rate cuts. While gold is traditionally a safe-haven asset that should rise during geopolitical turmoil—often summarized as "conflict boosts gold"—the current price drop instead of a surge clearly indicates market disappointment over the postponed rate cut decision.
The long-term trajectory for gold is determined by de-dollarization trends. I have consistently maintained a positive long-term outlook on gold over the past few years, arguing that escalating US government debt and continuous increases in USD money supply, against a backdrop of de-dollarization, will cause the dollar-denominated price of gold to rise. Although gold recently broke through the $5,000 mark, attracting substantial profit-taking, the current decline is not solely due to delayed rate cut expectations but also significant profit-taking pressure, with early investors seizing the opportunity to exit. Short-term, gold prices may experience volatile adjustments as the market absorbs these sales. Nevertheless, the medium to long-term upward trend for international gold prices remains intact.
Although the US may attempt to reinforce dollar hegemony, particularly the petrodollar system, by compelling oil-exporting nations to use USD for settlements, such efforts could backfire. Many countries are likely to promote trade currency diversification to avoid the risks of dollar dominance, including potential coercion or sanctions. Therefore, the broader trend of de-dollarization is unlikely to reverse, supporting a long-term upward trend for gold. Investors should consider gold as a long-term allocation, focusing less on short-term fluctuations and viewing significant dips as potential buying opportunities. For years, I have recommended allocating approximately 20% of an investment portfolio to gold-related assets, a strategy that remains valid. The current decline offers a favorable entry point. Since timing the absolute bottom is impossible—as it results from market dynamics only confirmed in hindsight—a phased, gradual accumulation approach during price drops is advisable rather than a single lump-sum investment. With gold prices having retreated over 10% from their peak, a maximum correction of around 20% is anticipated, suggesting limited further downside. A strategy of increasing allocations as prices fall can be effective.
The blockade of the Strait of Hormuz and the ongoing US-Iran conflict, with no clear end in sight beyond Trump's verbal desire for a quick resolution, create persistent uncertainty, likely supporting oil prices. After a period of adjustment, oil prices are likely to reach new highs. A prolonged conflict, especially if the US commits ground forces leading to an extended war, could push international oil prices to record levels. Rising oil prices introduce significant uncertainty for global economic development. As a fundamental industrial input, higher oil prices substantially increase production costs across sectors, elevate global price levels, and create imported inflation, which is challenging for nations to counter except through passing on costs via higher product prices.
For China, rising oil prices increase industrial production costs, likely narrowing the decline in the Producer Price Index (PPI) or even turning it positive as industrial product prices rise. In response, efforts should focus on boosting domestic demand and stimulating consumption to absorb excess capacity, allowing industrial firms to moderately increase product prices to offset higher costs. Concurrently, accelerating the development of new energy sources to gradually replace traditional energy and promote electric vehicles over internal combustion engines can reduce dependence on imported oil. Significant progress has already been made in China's power generation sector, where statistics show that the combined capacity of photovoltaic and wind power has surpassed that of thermal power, demonstrating the success of the new energy strategy. This development substantially reduces reliance on traditional energy sources like oil and coal, providing stability during international turmoil. Furthermore, China's substantial strategic petroleum reserves mean short-term oil price increases and Strait disruptions have limited immediate impact on oil and energy security. However, prolonged conflict would gradually amplify these effects, necessitating preparedness for various scenarios. Sustained high oil prices around $110 per barrel would benefit the domestic oil and gas sector by boosting profitability for petroleum companies. Conversely, the chemical products industry would face challenges as higher imported crude costs increase production expenses, potentially eroding profits for some chemical firms. Ultimately, the impact on major state-owned oil companies reliant on imported crude depends on the duration of the Strait blockade and how long oil prices remain elevated, with differing implications for the short versus long term.