Iran’s Lesson for Trump in Economic Warfare

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2:22Stephanie Flanders:I'm Stephanie Flanders, Head of Government and Economics at Bloomberg. This is Trumponomics, the podcast that looks at the economic world of Donald Trump, how he's already shaped the global economy and what on earth is going to happen next. This week, nearly a month since the US and Israel started bombing Iran, we thought it was time to take stock of the economic consequences of that war, but also the broader implications for the US and its allies, and yes, Trumponomics. Because watching how this entire conflict has unfolded since late February, and the deeply suboptimal ways out of this, seemingly now for the US, it feels like far from crumbling, as President Trump appears to have expected, the Iranian regime has not only survived, but given the president a lesson in how you deploy economic leverage in today's economy.

3:12Stephanie Flanders:As one of our guests today writes in a forthcoming piece, Iran didn't want this war, but now it has reasons to prolong it. That's a problem for us all, certainly for President Donald Trump, who seems unable to reopen the Strait of Hormuz despite his threats. It's a problem for the global economy, for reasons we can already see, and some others we'll discuss in a minute. But it's also a problem for future governments, because if the Strait of Hormuz can be closed once, it can be closed again. Even if the war ends tomorrow, Iran's key takeaway will be how easy and cheap it is for them to hold the global economy hostage.

3:49Stephanie Flanders:Iran has some very valuable cards, you might say, and thanks to Donald Trump, it now knows how to play them. In the UK, I'm delighted to go through all of this. We have Dina Svandary, our lead geoeconomics analyst for the Middle East, and also the co-author of that piece I just cited. Dina, thank you so much for joining. I know you've got a very busy day. Thank you so much for having me. And in Washington, familiar voice, Tom Orlick, Chief Economist for Bloomberg Economics. Tom, thanks very much for coming back. Great to be here. Thanks, Stephanie.

4:25Stephanie Flanders:I was struck when we think about counting the cost of this conflict. I mean, we had a regular meeting with all the economists earlier today, starting to think about our latest forecast for the world. And that sort of forced us to confront the many ways in which the picture has changed and may yet change further because of this war. Just talk us through some of that, the basic economic consequences that we've seen from this conflict already just in four weeks. So I think the short answer on what the Iran war means for the global economy is nothing good. And the long answer is, well, this is going to impact on multiple different dimensions.

5:04Most obviously, we have energy prices already sharply higher. That's going to push inflation up. It's going to eat into households' budget for consumption, higher inflation, lower growth. That's not a positive story. We're also seeing the Iran war impact financial markets. We're seeing gauges of uncertainty rising. We're seeing equity prices falling, higher uncertainty, lower markets. that's not a positive for growth either. The last piece of it is what this means for central banks and borrowing costs. I think heading into 2026 the expectation was this is going to be the year where inflation finally gets back to target.

5:52Certainly we're not going to see any more rate hikes and probably we're going to see a bunch of rate cuts. While that narrative has now very significantly changed. If we look at what markets are betting on, they've taken all the rate cuts off the table. And for the Bank of England and the European Central Bank, actually, the expectation of many investors is there could be rate hikes coming. Now, whether or not you believe that forecast is true, the fact that that's what investors are betting on is already having an impact. So we're seeing higher borrowing costs for businesses, higher borrowing costs for households.

6:28That's an additional drag on growth.

6:31Stephanie Flanders:What you brought out there, which I think is important, and we're seeing more now than we did in the first week or two when the expectations were still that it was going to be potentially a very short conflict, is those broader knock-on effects. The oil price goes up, headlines around that were now at maybe, I don't know, 110, something like that, dollars a barrel. That's obviously affecting petrol prices in the US, that on the road diesel price has risen by more than a dollar per gallon since the end of February, which people in America obviously notice. But there's also all those indirect consequences.

7:06Stephanie Flanders:And the biggest, as you've mentioned, is what happens to financial conditions and interest rates. Dina, the piece I sort of liberally quoted earlier, you're highlighting, along with our chief emerging market economist, Ziad Daoud, a basic asymmetry, which is that Iran has reasons now to prolong this war, ironically, whereas the US, thanks to all this economic pain, wants it to end as soon as possible. For some people, that will sound counterintuitive when you consider the amount of damage being inflicted on Iran on a daily basis. So maybe just take us through that. Sure. I think the first thing that's important to note is that for the Islamic Republic, the moment is existential.

7:46It really is. This is about survival of the Iranian government. They face a perfect storm of crises, a political one, an economic one that's been around for decades, and a social and environmental crisis. And we saw this spillover a couple of months ago with the protests inside the country. And we also saw the really harsh government crackdown that demonstrated that they really are out of tools for dealing with these crises other than using just brute force. So what are they going to try to do with this conflict? They have two main goals. The first is they have to survive it, obviously. But the second is in order to ensure that they last as a government, they also have to reestablish deterrence vis-a-vis the United States and Israel.

8:34And that means basically imposing such a significant cost on everyone in order to ensure that the US and Israel do not regroup and come back. in six months' time and re-attack Iran, which is pretty much what happened this time around. So really, this strategy of imposing a cost is on three levels. The first one was obviously hitting the US and Israel directly because they're the warring parties. The second was hitting the region, especially the Gulf Arab states. So they hit infrastructure in those countries, but also energy infrastructure. And the third was really to impose a global cost for the war by closing the Strait of Hormuz and again hitting regional energy infrastructure, which inevitably was going to impact the rest of the world.

9:22Stephanie Flanders:We talked about the economic pain that the world is feeling from the conflict. In your piece, you sort of highlight there's another asymmetry that the Iranian economy is actually doing potentially better than it would have done before the war. I mean, that's in some respects. Obviously, we're seeing enormous amount of damage from the attacks. And that seems to be now not just in military targets, but more broadly across the country. Some other aspects are actually doing slightly better. Tom, I know you've been looking at that a little bit, some of the ways in which the Iranian economy has actually been doing better.

9:56Yeah, I think that's right, Stephanie. This war is driving up energy prices. Who gains from that? Well, it's countries that can continue to export oil and capture the higher price, right? So who's on that list? Well, Iran is on that list. The Strait of Hormuz is closed, but it's not closed to Iran's own tankers. Iran's exports of oil are down a little bit since the start of the war, but relative to other Gulf oil producers, they're not down very much, and they're able to capture the benefits of significantly higher oil prices. And so one way we see that reflected is this kind of slightly extraordinary move in the US and Iranian currencies.

10:46Here we have the US, the world's greatest power, pummeling Iran with the world's most advanced military kit. But whose currency is up since the start of the war? It's Iran's currency, right? And I think that tells you a story about a sort of slightly unusual and unexpected dynamic at work here.

11:08Stephanie Flanders:The extra level of that really sort of made people sit up this weekend, or certainly me, was the Treasury Secretary also announcing the removal of the US sanctions on the Iranian oil at sea, which is, of course, directly putting money in their pockets to potentially buy more drone equipment from China or elsewhere. I mean, Dina, you've already highlighted some of the sort of asymmetries that are feeding into this. We're seeing at so many different levels. It's not just that the economic pain is being felt more by the US and its allies than by others, but also this massive cost difference between the cost of what the US has to do to keep attacking Iran, or indeed, take hold of the Strait of Hormuz, versus how relatively cheap it is for Iran to continue to defend these things.

11:59Absolutely. Iran, when it comes to this war, is on the right side of the cost curve. So the munitions that Tehran is using, the missiles, of course, are expensive to produce, and Iran has a limited number of them. But they're also relying quite a lot on drones, on Shahid drones that are really cheap to produce, can be produced pretty much anywhere in facilities that would look like any commercial production industrial facility, which means they're really difficult to find and target for the United States and Israel. And it can produce a lot of them. So Iran is producing these drones quite cheaply.

12:37When it comes to blocking the strait, it relies on drones, it relies on missiles, but it can rely on a whole range of other very cheap options. Sea mines are one of them. It could literally use little wooden boats with explosives and send them out into the middle of the strait, and that would be enough to pose a threat to close the strait. So for Tehran, it's very easy and comparatively cheap to cause this much disruption. And of course, that is Tehran's main lesson learned. On the other side, for the United States and its partners in the region, missile defense interceptors are quite expensive to produce and they cost a multiple of the cost of a Shahid drone.

13:20And while they are now using different methods to protect themselves against these drones, generally the use of interceptors against drones just puts you on the wrong side of the cost curve, making it very expensive to defend yourself.

13:36Stephanie Flanders:It's an exaggeration, but of course Vietnam is the conflict that sort of hangs over some of these discussions in the US. And I guess what's striking about this is there's a slightly self-perpetuating element to this, or a self-financing element to this on the Iranian side, that the worse it gets, the higher the oil price goes and the more funds that Iran potentially has to continue the war, which was actually not a direct dynamic that you saw in the case of Vietnam.

14:15Stephanie Flanders:Tom, are we getting carried away also with just the degree to which Iran is holding the US, the world's biggest economy, hostage? At some level, the US does have powerful weapons here, It could apply. Some have talked about having a full blockade of Iranian oil, seizing of Iranian tankers, for example, rather than lifting sanctions. Are we underestimating the chances of that, given that it is somewhat embarrassing for the US to be in this position in theory? Just briefly on the Vietnam War analogy, Stephanie, that remarkable move by the U.S. over the weekends to de-sanction Iran's oil actually reminded me of that famous quote from one of the U.S.

15:02soldiers in the Vietnam War. It became necessary to destroy the village in order to liberate it, right? In the Iran war context, it turns out it's become necessary to liberate Iran's oil in order to destroy Iran. Coming back to your question, I think Iran is certainly demonstrating some powerful asymmetric capabilities here. But you're certainly right that the United States, as the world's superpower, as the world's most powerful military, as the world's most powerful economy, does have a number of levers which it can pull, right? I think one question sitting here in DC and hearing, frankly, rather contradictory messages flying around.

15:49Iran has 48 hours to open the Strait of Hormuz or will decimate their power infrastructure. We have a 15-point plan for Iran that we are happy to discuss and potentially will have a truce while we discuss it. For me, that raises the question, well, the US has a number of powerful levers of economic statecraft that it could pull to start shifting the dynamic in global energy markets. But is there anybody here who is thinking through those options in a coherent way? Is this an administration which is positioned to deploy the formidable set of economic statecraft tools that they have at their disposal?

16:34on.

16:35Stephanie Flanders:Staying with you, Tom, if we're sort of thinking now, slightly longer term about potential paths and what the implications are for the global economy, I mean, we talked at the start about the damage that we're already seeing. And in fact, we're seeing it in the now cast, the very sort of short term forecast for inflation, even for just the month that we're in now for March have already gone up by potentially half a percentage point or more in most of the major economies just because of this shock. A few weeks ago, we could have, in fact, we did talk about a sort of short shock scenario, which wouldn't have brought very much lasting damage to inflation or to growth.

17:17Stephanie Flanders:That ship has sailed or got stuck in the Strait of Wormuz. But what are the possible paths from here? How much of that economic pain you talked about is now baked in for the rest of the year? I mean, are we looking at recessions? What should we be looking for? So I think the first question is how long does the war continue and at what intensity? So if we're in a world where the war continues but at a moderated intensity and we're in a world of say 100 to 110 dollar oil in the second quarter that's a world where inflation is markedly higher perhaps between 0.5 and 1 percentage point. So if you were thinking about inflation of 2.5%, you should probably be thinking about inflation of 3, 3.5%.

18:06It's a world where growth is lower. If we're looking at the euro area, for example, shaves around half a percentage point of growth for a region which is already growing pretty slowly. And it's a world where central banks have a difficult decision. Do they hike to contain inflation and inflation expectations, or do they cut to support growth, but that's a manageable shock, right? If the war continues at a much higher, at a higher level of intensity, if the Strait of Hormuz stays closed, well, that's a world where our modelling suggests we could have oil moving markedly higher, perhaps as high as$170 a barrel.

18:46That's a world where you have a much larger increase in inflation, a much lower, a much more significant blow to growth, a much more difficult decision for central banks. And that's a world where you start thinking more about stagflation risk, more about recession. Now, looking a bit further forward, and perhaps too optimistically anticipating the end of the war, I think the critical question for oil prices and for the global economy is going to be firstly, well, how much lasting damage has been done, right? It's not just the Strait of Hormuz being closed, There's also drones hitting very, very significant parts of Gulf energy infrastructure.

19:27An important question is, how quickly can that be fixed? And an additional question is, well, how much of a geopolitical risk premium stays in the market, right? How much do oil traders say, okay, the war's over, we're back to the world of$65 oil. And how much do they say, yeah, the war's over, but you know what, this could kick off again. We need to keep a geopolitical risk premium in the price.

19:51Stephanie Flanders:how things go from here for Iran and its relations with the broader regime is actually going to affect the answer to Tom's question. I mean, many people will think that we've been making Iran sound too good and painting it as this kind of skillful regime that's managed to play its cards very effectively. But as you pointed out at the beginning, this is a tyrannical regime that had a weakening power in many ways, had been forced to brutally suppress its population earlier in the year. And it's using the only tools it has. At the risk of massively alienating countries that hadn't been as negatively disposed to it, has it overplayed some of the few cards it has, particularly in sort of alienating other Gulf countries, hitting civilian targets there, and by all accounts, really putting them on America's side?

20:46So I think Iran is going to face a really tough moment once this war finally winds down. You've pointed out domestically it's going to struggle because it is out of tools and none of those realities will have gone anywhere. The only thing the war did was divert attention elsewhere, focus Iranians' attention more on the US and Israel bombing campaign than on their own government. At some stage, they're going to have to deal with the grievances that the Iranian population have. And again, they're still out of those tools unless they're able to make some kind of deal where they could get some sanctions relief and allow the government to really put in place an economic plan with reforms, etc., etc., that would help improve the domestic situation.

21:33So that's domestically. In the region, Iran before the war was in somewhat of a better place with some of its Gulf Arab neighbors over the last few years. They had begun to build ties. It had mended some of its tensions with Saudi Arabia and the UAE in particular. It had a good working relationship with the others. The Gulf Arab states really tried hard to lobby against a war with Iran, with President Trump. And given what had happened in the region over the course of the last few years, some of the Gulf Arab states began to see Israel as a bigger threat than Iran. So that was actually a pretty good position for Iran to be in.

22:12But with this bombing campaign, with some of Iran's retaliation in the region, the new reality is that the bigger threat for the Gulf Arab states once again is Iran. And they're going to have to adjust the way they deal with Iran as a result of that. So they are likely to boost defense investments even more than they have in the past. The Gulf Arab states are likely to double down and become even closer to the United States, even though many of them are very frustrated with President Trump. And they're likely to focus on containing Iran rather than engaging it, which will mean that Iran will find itself in a difficult position regionally, especially since many of its regional non-state partners have been weakened over the course of the last two, three years.

23:00Stephanie Flanders:Dino, I guess a final thought from you. I've had conversations with Tom on this show over the years and one of the things we've noticed from the US efforts to apply economic leverage vis-a-vis China have inspired China to double down on finding alternatives in order to not have that kind of vulnerability. I mean, now everyone's been reminded very vividly of Iran's ability to hold the world hostage in that very small strait. Surely we're going to see a lot more efforts to find alternatives on that front as well. I mean, is one consequence going to be that in five or ten years the Strait of Hormuz is not as important as it is today?

23:42I think it will have less importance than today. I think it will still be important because I think the Gulf Arab states are going to continue to get their oil out somehow. They are likely to divert some of their oil so that it doesn't go through the straits. So, for example, Saudi Arabia is diverting much of its oil through pipelines that goes to the Red Sea. But none of these alternative ways of getting oil out are particularly safe. After all, the Houthis are present in the Red Sea, and while they haven't joined the war yet, the threat looms large that they will. The Gulf Arab states are likely to invest a lot more in building more pipelines.

24:22Clients of energy from the region are also likely to adjust. There is likely to be some rerouting of oil, perhaps from Asia to Europe. with Asia having to look elsewhere. Something similar for gas, for example, but there's likely to be rerouting, there's likely to be diversion. There will be changes, but it won't be enough to completely wipe out Hormuz's importance.

24:50Stephanie Flanders:Both of you have brought home, long term, there's going to be enormous cost to this conflict for both sides, and maybe especially for Iran. But short term, they have survived, and they seem able to survive a good deal of collateral damage, perhaps more than the US. Thank you very much. Thanks, Stephanie. Thank you.