Inflation creeps back and central banks turn hawkish — even as US stocks keep setting records

Finance News 5 min 23 sources

A war-driven price pulse is pushing the Fed, the ECB, the Bank of Japan and others toward higher rates, while Wall Street rides an AI boom to fresh highs and bond yields slip on ceasefire hopes.

Key takeaways

A war-driven price pulse is pushing the Fed, the ECB, the Bank of Japan and others toward higher rates.
At the same time US stocks keep setting records on the AI boom — two stories running side by side that don't agree.
Wars show up as inflation through energy and supply costs, and the job market is holding for now.

Two stories are running side by side, and they don’t agree. In the United States, all three major stock indexes closed at record highs on Monday, and the Dow and S&P 500 are on their longest winning streaks of the year [1][2]. At the same time, central bankers from Cleveland to Frankfurt to Seoul spent the day warning that inflation is climbing again — and that the next move on interest rates may be up, not down [3][9][18]. The shadow over all of it is the Iran war, which has lifted energy costs and unsettled the calculations every central bank was making just months ago.

Records on Wall Street, with a frothy edge

US equities are being carried by enthusiasm for artificial intelligence. The S&P 500 sat around 7,618 on Tuesday and the Dow near 51,244, both extending their best runs of 2026 [21]. Hewlett Packard Enterprise was a standout: its shares soared toward a record gain — up roughly 28% — after earnings showed a rush of demand for the networking gear that AI data centres need [21][11].

But the same optimism is starting to look stretched. The five-day average of the Cboe equity put-to-call ratio — a gauge of how aggressively investors are betting on rising prices versus protecting against falls — fell to 0.452, its lowest since March 2022 [6]. Mark Arbeter of Arbeter Investments told MarketWatch the reading shows demand for bullish bets running at more than twice demand for protective ones, and that the last time it was this low, the market was topping out before the 2022 downturn [6]. He framed it as a reason for caution, not a sell signal. Tech wasn’t uniformly strong, either: Alphabet and Microsoft slipped, and the Nasdaq wavered [2].

Central banks start leaning the other way

The bigger shift was in the language of policymakers. Cleveland Federal Reserve President Beth Hammack — the Fed is America’s central bank — said rates “may need to rise” if inflation pressure keeps building. “I’m more concerned about the growing risks of persistently elevated inflation than the risks to full employment,” she said, adding that policy “may not be sufficiently restrictive” to get inflation back to the Fed’s 2% target [9]. US inflation rose at its fastest pace in three years in April [11].

Europe is moving the same direction. Eurozone core inflation — the measure that strips out volatile food and energy to show the underlying trend — climbed again, and both the FT and WSJ reported it sets up the European Central Bank to tighten at its June meeting [18][20]. In Asia, South Korea’s inflation hit a two-year high of 3.1% in May, higher than expected, putting a near-term rate hike “in play” [3]. The Bank of Japan is expected to raise rates in June; a senior banker urged it to then signal a clear path, with markets already pricing nearly two Japanese hikes this year [17].

India shows how hard the choice is. The Reserve Bank of India meets Friday with its repo rate — the rate it lends to banks at — held at 5.25% [13]. Nearly 80% of 56 economists polled by Reuters expect no change, even as interest-rate swaps price in roughly 100 basis points (one percentage point) of tightening over the next year [13]. The bind: a weaker rupee argues for higher rates to defend the currency, while still-soft domestic inflation argues for sitting still. One economist called “a hold with hawkish guidance” the most elegant compromise [13].

Why a war shows up as inflation

The thread linking these decisions is the Iran war, and the mechanism is energy. When conflict threatens oil supply, fuel and shipping costs rise, and those costs feed into the price of nearly everything. That is a supply shock — prices pushed up by scarcity rather than by booming demand — and it is the hardest kind for a central bank to handle, because the same shock that lifts prices also drags on growth.

How far it spreads depends on whether companies can pass the cost on. Here the news was reassuring for Europe: a Reuters analysis of 175 eurozone earnings calls found only about a third of big firms are raising prices in response to the war, far fewer than after Russia’s 2022 invasion of Ukraine, because weak consumer demand is curbing their pricing power [10]. That argues for ECB patience even as core inflation ticks up [10]. For oil-importing economies the strain is sharper: the Bank of Japan faces higher energy costs that both lift inflation and weigh on its import-dependent economy at once [17]. The development lender EBRD said it will cut its growth forecast and raise its inflation forecast, having already committed €5 billion to countries hit by the war’s fallout [14].

Markets, for their part, took some comfort from diplomacy. Treasury yields fell as investors pinned hopes on an Israel-Hezbollah ceasefire, and the dollar held steady while traders awaited progress on Middle East peace talks [5][8]. Oil prices slipped on the day, with crude near $91 a barrel [4].

The job market holds — for now

The other reason the Fed feels no rush to cut: the US labour market is still firm. Job openings climbed to 7.6 million in April, near a two-year high, and first-time claims for unemployment benefits remain at historically low levels [7][11]. Friday’s payrolls report is expected to show about 85,000 jobs added in May, after 115,000 in April, with unemployment holding at 4.3% [11]. A steady jobs picture reinforces market bets that the Fed will hold its rate in the 3.50%–3.75% range while it watches the inflation fallout from the conflict [11]. Beneath the headline strength, though, there are cracks: separate reporting points to a “broken ladder” of hardship for entry-level and young workers, with one analysis tying rising youth unemployment partly to the spread of remote work [12][22].

Also moving

In crypto, Michael Saylor’s Strategy Inc. — the company that became Bitcoin’s largest corporate holder by buying and never selling — sold about $2.5 million of the token, its first sale since late 2022 [23]. The amount is tiny against its holdings, but symbolic: a break from a playbook the firm had defended for years. Bitcoin itself slid below $68,000, down nearly 5% on the day [2][21].

02 · Lesson · why it matters

One lever, two problems: the bind every central bank is in this week

A war pushes prices up and growth down at the same time — and the single tool a central bank holds can only fight one of them.

The same word, in a dozen languages, in one week

Read the day’s news and a pattern jumps out. Cleveland’s Fed president says rates may need to rise. The European Central Bank looks set to tighten in June. South Korea, Japan, India — all weighing the same move, all in the same few days. It looks like coordination. It isn’t. It’s a dozen people in a dozen countries reacting to one shared event: a war that made energy more expensive. When the cause is shared, the response rhymes, even with no one in the room together.

This isn’t the usual kind of inflation

Most of the time, prices rise because people are spending freely — more buyers than goods, so sellers charge more. That’s demand-pull inflation, and a central bank handles it cleanly: raise the cost of borrowing, people spend less, prices cool. The tool fits the problem.

A war-driven price rise is a different animal. Oil gets scarcer, fuel and shipping cost more, and those costs seep into nearly everything. Nobody is spending too much — something just got harder to get. Economists call it a supply shock. The crucial difference: the same shock that lifts prices also drags on growth. Expensive energy doesn’t just raise the bill; it makes factories and households poorer at the same time.

The lever cuts both ways

Here is the bind. A central bank’s main tool is one switch — the interest rate — and it moves in only two directions.

Raise it, and you fight the inflation: borrowing gets dearer, the economy cools, prices ease. But you’ve just slowed an economy the shock had already weakened. Cut it, and you protect growth — but you let prices run while people are already feeling them. One lever, two problems, and pushing it either way helps one and worsens the other.

That’s why India’s central bank was described this week as on a “razor’s edge.” A weaker currency argues for higher rates to defend it. Soft domestic inflation argues for sitting still. There is no setting that answers both. The cleverest move on offer wasn’t a fix — it was a careful hold, paired with a warning that the bank stands ready to act. When you can’t solve a problem, you manage what people expect of you.

Whether a cost becomes inflation depends on who can pass it on

The same shock doesn’t land the same everywhere, and the reason is quietly important. A cost only turns into broad inflation if companies can raise their prices. If they can’t — if customers are too stretched to pay more — the cost gets absorbed in thinner profits instead of spreading.

That’s exactly what showed up in Europe this week. Only about a third of big eurozone firms said they were raising prices in response to the war, far fewer than after the 2022 energy shock, because weak demand left them no room to. The shock was real; the inflation was muted, because the chain from “costs up” to “prices up” was broken by a tired consumer. In an oil-importing economy running hotter, the same shock bites harder. The shock is the input; pricing power decides the output.

The deepest fight is over what people believe

Listen closely to the Cleveland Fed’s words and you hear the real worry. She wasn’t only describing today’s prices. She was worried they might become “embedded” — that people would start to expect high inflation and act on it.

This is the part that makes inflation strange. If everyone believes prices will keep rising, they behave in ways that make it come true: workers ask for bigger raises, firms lift prices pre-emptively, the expectation feeds itself. So a central bank fights on two fronts at once — the actual prices, and the public’s belief about future prices. That second front is why they sometimes move hard and early, before the data forces it. The point isn’t only to cool the economy. It’s to be believed. Credibility is the asset they cannot afford to lose, because once people stop trusting that prices will settle, no interest rate is high enough to easily win that trust back.

Two clocks, running at once

Now the day’s contradiction makes sense. Stocks set records on hopes for artificial intelligence, while central bankers brace for higher rates and a war’s price pulse works through the system. Both are true. Markets are pricing a future they’re excited about; central banks are managing a present they’re worried about. The two clocks rarely show the same time.

The pattern worth carrying past today is this: when a problem arrives from the supply side — a war, a shortage, a broken link in a chain — your strongest tool stops being a fix and becomes a trade. Use it, and you choose which pain to take, not whether to take one. The skill isn’t finding the setting that solves everything. There isn’t one. It’s seeing the trade clearly, choosing the pain you can live with, and protecting the trust that lets you choose again next time.

03 · Lab · your turn

Set the Rate

Be the central bank in a supply shock: move one rate lever and feel inflation and growth pull against each other, with no setting that fixes both.