How much does oil matter for inflation anyway?How much does oil matter for inflation anyway?

As markets await the first Consumer Price Index print measured since the start of the Iran war, slated for April 10, it’s worth stepping back and asking one important question:**** how much does oil matter for inflation anyway?

Energy is only about 6% of the CPI, but that’s not the full picture.

• That is significantly lower than it was back in 2012, when energy was more than 10% of the index — and, of course, when prices spike, people have to spend more on those goods, which is why the weight of energy in the CPI basket jumped after Covid in 2022.
• Of course, while the share of energy contributing to the CPI directly might be lower than what many people expect, higher oil and energy prices affect nearly everything else indirectly.
• Food prices, making up ~15% of the index, are sensitive to fertilizers, which are often produced using natural gas, as well as transportation costs. Airfares, worth 0.8% of the index, are already rising. 
• Supply chains across nearly every physical industry in America are impacted by more expensive barrels of oil.

Indeed, RBC analysts project that if oil prices settle around $100 per barrel, US inflation would rise above 3.5% from Q2, about 0.7 percentage points higher than the base case. IMF analysis estimated last week that every 10% increase in energy prices, if sustained for a year, would result in a 40-basis point increase in global inflation.

The Takeaway

For now, traders in prediction markets* are expecting a chunky rise in headline inflation, with the majority expecting CPI to rise 3.2% for March. Even if the war in Iran were to end, oil prices are likely to remain elevated. In addition to the increased costs of shipping oil through the Strait of Hormuz — whether that involves paying the Iranians or merely just factoring in the higher price of insuring the vessels that transport oil and the valuable cargo within — a significant amount of fossil fuel infrastructure has been damaged and a number of facilities have ceased processing. Getting those facilities back online will take time, so for now pricey oil is going to stick around for a bit.