Fed Beige Book: Iran war causes energy and fertilizer prices to surge; US businesses cautious

The Federal Reserve said in a report released Wednesday that US businesses and households are still adapting to the Trump administration's tariff policies and are also being hit by soaring energy prices due to the Iran war, although the report noted that economic activity in most parts of the US grew in recent weeks and employment was stable.

In its latest Beige Book, the Fed said the Middle East conflict is considered a major source of uncertainty, complicating decisions on hiring, pricing, and capital investment, with many businesses adopting a wait-and-see stance.

The report said business outlooks varied amid widespread uncertainty about future conditions. Contacts in the Boston and St. Louis Fed districts noted some optimism despite the war, while other districts reported generally subdued sentiment.

As one contact told the Kansas City Fed, low- and middle-income households "cannot offset low wages, tariffs, and inflation with their budgets." The Fed is expected to hold its benchmark overnight rate steady at the current 3.50%-3.75% range at its next policy meeting on April 28-29, as policymakers also adopt a 'wait-and-see' stance.

Based on surveys and interviews with business leaders and community organizations across all 12 Fed districts, the report said price increases were "generally mostly modest."

The report said rising energy costs mean higher shipping costs and higher costs for plastics and fertilizers, adding that "in addition to energy-related increases, input cost pressures were widespread."

The Cleveland Fed reported that multiple manufacturers and retailers raised prices to cover rising input costs and previously absorbed tariff-related costs. Some manufacturers imposed surcharges on oil-related inputs affected by the Middle East conflict.

Consumer resilience waning

The information in the latest report was collected on or before April 6, reflecting volatile economic sentiment since Iran closed the Strait of Hormuz, which disrupted about one-fifth of global oil shipments and about one-third of fertilizer shipments.

Average US gasoline prices jumped above US$4 per gallon, diesel retail prices surged above US$5.60 per gallon, and fertilizer prices also rose sharply.

The previous Beige Book, completed before the latest Middle East hostilities began on February 28, reported generally optimistic expectations for economic growth and expectations that the pace of price increases would slow.

Despite a series of economic shocks, including post-pandemic inflation spikes and last year's tariff shock, policymakers and analysts have been surprised by the resilience of consumer spending. The latest Beige Book contains some signs that consumer spending power is weakening.

Manufacturing firms in the New York Fed district noted that greater uncertainty from tariff changes and the war "upended pricing plans and made customers hesitant to commit to purchases." Still, the New York Fed said that despite headwinds, "some firms reported strong momentum."

Inflation outlook

Fed policymakers say they typically 'see through' temporary spikes in commodity prices, and many policymakers have said they still expect goods inflation from last year's tariff shock to ease later this year, a development that would allow them to resume rate cuts.

Meanwhile, inflation has been above the Fed's 2% target for more than five years. According to the latest data, economists estimate that not only did headline inflation rise last month, but 'core' inflation (excluding energy and food prices) also increased, which policymakers use to gauge future inflation pressures.

Policymakers generally view the US labor market as stabilizing, with slowing job growth balanced by a shrinking labor force due to a sharp drop in immigration. The unemployment rate fell slightly last month to 4.3%.

The Beige Book noted that wage competition overall remained 'moderate,' suggesting the labor market is not adding to inflation pressures. Some districts also mentioned no widespread layoffs and low turnover rates, further evidence that low-firing, low-hiring labor markets remain the norm in most of the US.

There are also signs that AI continues to reshape the labor landscape. The San Francisco Fed said some contacts reported using AI-generated tools to reduce costs and pause new hiring.