If Iran Conflict Continues, Dangerous Economic Side Effects Could Follow

Dave:
This past week, the US conducted airstrikes in Iran, raising the stakes in an already simmering Middle East and raising important questions about the US’ involvement and the US economy going forward. Today we’re taking a look at how the evolving situation in the Middle East and how military conflicts in general could play out in the US economy and the housing market. Hey everyone, it’s Dave. Welcome to On the Market. It’s no secret by now that this past weekend saw rapidly changing dynamics in the Middle East as the US struck three nuclear sites within Iran in support of Israel’s two week old war with the regional power. And of course I am recording this on Tuesday, June 24th. The situation is evolving very rapidly. The initial airstrikes happened this past Friday. Then on Monday we saw Iran sort of give this cursory response where they fired some missiles at our base in Qatar.
And then as of Monday night and Tuesday morning, president Trump announced a ceasefire, which at least as of this recording seems to be in place but has been a little bit shaky. So we’re just not exactly sure where the situation is going right now. With that said, this situation does raise a lot of questions about what military conflicts mean for the broader US economy in general because as of right now, we don’t know if this situation is going to be done. Perhaps this ceasefire holds and diplomacy prevails and there’s not much more to this story. Or the US could get dragged into either a long war of attrition where the US is supporting Israel financially, or maybe this actually becomes a more direct military conflict. At this point we don’t know. But what we can do and what we can talk about is some of the things that you should be thinking about and considering as this situation evolves because that way as things unfold, you can sort of recalibrate and re-strategize in real time.
And perhaps you’re someone who believes strongly that this is going to turn into a conflict. You can then make decisions about your own investing and your own portfolio based on what could happen in an escalation. Or perhaps you think this is all going to blow over and you want to plan your portfolio accordingly. We’ll talk about that situation as well. So that’s the plan for today’s episode. Let’s get into it. So let’s just frame this conversation a little bit because a lot of people have been reaching out to me rightfully asking what happens to the US economy and what happens to the housing market? What are the prospects for real estate investors if there is a war? Although that’s a great question and I wish I knew the answer to it. I don’t necessarily think it’s ans answerable question because so much when you are a data analyst and when you sort of look at these things, what you do is look at historical data.
And although there have been plenty of wars in the United States, what a war means today is super different than a lot of the historical examples. If we look back at time, sure, we can take a look at what happened to the housing market and the economy during World War I, but that was a totally different situation. That was an entire society mobilizing for a war effort. Same thing in World War ii, while not as intense Korea and the Vietnam War certainly had draft, it was hugely expensive, cost tens of thousands of American lives. So that obviously has some precedent, but is that what this is going to turn into? Perhaps this situation could evolve into something quick like Desert Storm or it might turn into a war of attrition like Afghanistan. And so it’s really difficult to just look back and say when there is a quote war in the United States, here’s what happens with the economy because every war is so different and it’s worth mentioning that the economy in the United States is totally different than it was in 1918 or in the 1940s.
So what we need to look at is current macroeconomic conditions, how the current situation in the Middle East could play out and sort of just generally how warfare is conducted more frequently in today’s day and age. And of course things could evolve and change. But what I’m going to do in this episode is talk a little bit about how recent trends in military conflicts and recent trends in macroeconomics may collide if something escalates, whether it’s in Iran, in the Middle East or in the many other geopolitically tense areas that exist in today’s day and age. So I think the first junction point of is this going to impact the economy, yes or no is really whether this is a limited engagement in terms of military confrontation. We’ve seen this time and time again for the last, I don’t know, 15 years or so, the US periodically does these pretty limited campaigns where there’s either airstrikes or some naval confrontation a lot of times in the Middle East and it happens for a couple of days, whether it’s in Yemen previously in 2020 there was an airstrike in Iran.
So these things happen, and when they’re very limited in scope, there’s almost no impact on the economy and at least as of Tuesday the 24th, we’re seeing this right now reflected in many of the financial markets in the United States as of Tuesday, stocks are up, loyal prices are falling back to the levels they were at prior to Israel’s first strike on Iran. And so largely the markets are just shrugging this off. They’re basically saying, you know what? This situation, we have this ceasefire, at least for now, this is probably going to be limited, probably not going to hit the US economy in any negative way. And that’s probably true if there is no further military conflict, there’s no reason to believe that it’s going to spill over into the US economy. That’s one situation and I think that’s the situation most people are hoping for. Where diplomacy prevails. There isn’t some protracted military conflict and there are no direct implications or negative impacts on the US economy. But the point of this episode is to talk about sort of the what if scenarios if the US gets dragged into either a war of attrition or a more direct military confrontation. Alright, so we’re going to talk about what happens in various military conflict situations, but we do have to take a quick break. We’ll be right back.
Welcome back to On the Market. We’re here talking about how potential military conflicts could spill over into the US economy and housing market. So I’m going to start with what I would call either a war of attrition or a proxy war. And these are situations where the US might be fighting Iran in theory, but it doesn’t have boots on the ground. We’re probably not sending ground troops into Iran and perhaps we’re not even directly launching strikes. We’re not using our planes and our ships and our Navy and all of that, but we are supporting Israel financially and probably with weapons, with their ongoing fight with Iran. And this is sort of how a lot of the US Israel relationship has happened historically where the US supports Israel financially and militarily but isn’t actually doing a lot of the fighting itself. And this again, isn’t necessarily going to happen.
It is one scenario, but let’s just talk about how this could actually impact the economy and the housing market. I think this is sort of the middle ground where there could be some limited impact to the economy, but not anything super severe at least in the short term because in this scenario, the primary thing the US is doing is financial assistance and the way it could impact the housing market is less so in terms of the labor market or manufacturing output. It probably won’t necessarily negatively impact GDP. There’s actually an argument it could positively impact GDP if the US is investing more into weapons manufacturing that they’re going to be shipping over to Israel. But the impact to me on this kind of situation is more long-term because as you probably know as I made an episode on this show, the US national debt is a problem.
It’s probably not a problem today or next month or maybe even in the next year, but it is coming to a head at some point if nothing changes, right? If we stay at the status quo where we are spending more than we are taking in and interest rates remain as high as they are right now, there is a situation where the US could potentially default. I think that’s unlikely, but I think the more likely scenario is the Federal Reserve starts to do quantitative easing or printing money and creates more monetary supply to service their debt, which can lead to inflation and that devalues the dollar and that has all sorts of broad implications for the economy and the housing market. In a scenario where this happens, and again, this is all a what if we’re just trying to game out one of these scenarios in a situation where we’re spending so much money supporting Israel in this proxy war or this war of attrition, we could take on much more debt than we already are.
We’re already at 36 or 39 trillion in debt. All of the forecasts that are going along with the one big beautiful Bill Act show us going into the 50 trillions over the next decade. And so we’re already up really high, but if we do a ton of military spending and we are adding to that deficit even more rapidly, it makes the scenario where dollar devaluation is more likely. And if that happens, the way I see it playing out is that fewer people are going to want to own that debt in the United States owning US. Government debt in the form of bonds is generally seen as a pretty safe investment, but when it becomes a riskier investment is if the dollar gets devalued because if you buy a 10 year bond, you’re basically lending the US government, let’s call it a thousand dollars at 4% interest rate.
But if there’s a ton of inflation or increase in monetary supply, every dollar that you’re getting paid back by that bond is worth less over time. And if inflation is high for all 10 of those years, you might actually be earning a negative return on that bond. And so that is the worst case scenario for bond investors. And what they do in that scenario, or at least when there’s fear of that, is demand a higher interest rate on bonds. Bonds are actually sold at auction, and so if no one’s buying at four and a quarter, the US government might need to take on debt at four and a half or four and three quarters or whatever. Hopefully you get the point of this example. And so if that happens and bond yield goes up, as we always talk about on the show, bond yields, mortgage rates, they’re tied together.
And so if those bond yields get pushed up by excess US debt, mortgage rates could go up or stay higher. There would just be more upward pressure on mortgage rates from where there is today, and that could have negative implications for the housing market. Now, all of this is not in the next six months, I’m just saying this is sort of a long-term thing, but if we get dragged into a situation like Afghanistan, for example, where we’re spending literally trillions of dollars over two decades, this could unfold. I hope that doesn’t happen. I don’t think that’s the most likely scenario, but I want to just mention that that is a potential scenario because like I said at the beginning, the likelihood that we’re having some sort of world war, like World War I or World War II or it’s the whole society mobilizing, it’s possible.
But right now that does not seem like the most likely scenario as of today. As I’m recording, hopefully diplomacy wins. That seems pretty likely as of today, but I think this sort of financial support is a reasonable scenario that could play out. And so I just wanted to share some thoughts about what might happen in that scenario. We do have to take one more quick break, but after the break, I want to talk about what would happen if there’s a true escalation and the US is directly confronting Iran or really any other military power in an ongoing acute conflict. We’ll get into that right after this break.
Welcome back to On the Market. I’m Dave Meyer here today talking about how potential military conflicts could interact with the economy and the US housing market. Before the break, I talked about this scenario where the US is essentially supporting a war against Iran or a potential military foe, not directly having a conflict where boots on the ground or we’re using our actual military to conduct operations. Let’s talk about that other scenario though. And again, I’m not necessarily saying this is the most likely scenario, but I think if this does happen, there are broader economic implications and let’s just talk about a few of ’em. The first one, especially if there is a conflict with Iran, is the cost of oil, right? If there is some disruption to oil supply, either coming from Iran or if they block the strait of horror moves, which has been speculated as a move that Iran could take if they wanted to escalate this situation, if those situations happen and the global supply of oil and energy is disrupted, that will cause some short-term pain.
We have seen oil as one of the bright spots in the economy right now. We’ve talked about a lot in the show. There are several bright spots. There are several red flags in the economy, but energy costs have been great. They’re down to $65 a barrel right now. I am certainly not an expert in oil futures, but I’ve done some research and it shows that if there is a direct conflict with Iran, the speculation is that oil prices would go above $90 a barrel. So we’re talking about a 30, 40, perhaps 50% increase in oil prices. Maybe in the short run, the US could reopen the strait of horror moves relatively quickly. This might be just a short run, but this is something economically that would matter. The price of oil does matter, not just to the actual inputs to businesses, but just global consumer and business sentiment depend a lot on oil prices.
And so if we saw this happen, it would have a negative impact on the economy, I’m almost sure of that. And for the housing market in particular, it would probably impact construction costs. First and foremost, construction uses oil. Obviously there are a lot of machinery that uses gas, but I think perhaps more impactful is the cost of shipping and how things might go up. If you’re importing tons of things to the United States and oil prices go up, that could get more expensive, that can make construction even more difficult. So that is the most impactful thing. If that happens, that could increase inflation because again, oil prices declining, has helped cool inflation. And so if that reverses, we could see the overall core CPI number go up a bit as well. The second thing that could probably happen is just more deficit spending. And this could go different ways, but it is likely, especially if it’s a long direct military conflict, that the United States will dedicate a lot of financial resources to manufacturing more weapons.
And that actually can be a short-term boost to GDP because you have a lot more manufacturing, a lot more investment into manufacturing. So that actually can be relatively good. It might even stabilize the labor market, but it obviously could add to the deficit even in a bigger way than I was talking about in the financial assistance scenario. If you are fighting a direct conflict, not only are you manufacturing weapons, but you are paying for logistics, you are paying probably more soldiers, probably the cost just is going to go up exponentially, I would imagine, over just providing financial support to Israel. And so that risk of deficit spending goes up. I think that brings me to the other point that I want to just raise right now, which is I said at the beginning of the show that there is really no prototypical example of what happens during a quote war in the United States.
And so we don’t know, but one thing that has happened in almost every direct military conflict that we’ve had is that taxes go up. We saw this in World War I. The US actually raised its top marginal tax rate from 15% to 77% from 1916 to 1918. In World War ii, the US changed a lot of their exemptions for income taxes. They brought millions of people into the tax system. They increased corporate taxes to help fund the war. And the Korean War taxes went up during the Vietnam War, a temporary 10% income tax surcharge was imposed to help pay for the war. And I think this is just interesting to note because right now the policies going through Washington in the form of the one big beautiful Bill act is to cut taxes or to at least extend the tax cuts from 2017 in almost every example and perhaps provide even more tax cuts.
And so I think if there is a protracted military conflict, something’s got to give, right? We’re already spending more than we earn. And so if our spending goes way up because of a war, the likelihood that we can effectively cut taxes without creating a ton of future risk in terms of a ballooning national debt, that’s a tough situation. So either taxes will go up or we won’t be able to fight this war, and we’ll either try and negotiate a settlement, whatever it is. I just wanted to call out this idea that we can fight a big direct war and cut taxes at the same time. That doesn’t usually work. And so that’s something to keep an eye out for if we do get into an actual direct military conflict. So that’s what we got for you guys today. I hope this helps you understand some of the potential scenarios because as of right now, we obviously are just waiting to see how Iran responds if there can be a negotiated settlement, if diplomacy is going to prevail.
Hopefully that happens. And then the economy is just back to where it was a couple of weeks ago, and it’s worth mentioning that that economy is still filled with uncertainty. But we’d be just back to the regular dose of uncertainty, not with this new potential military conflict looming over the us. There is still potential that the war escalates and the conflict escalates if it does. Hopefully this episode provided you with some things to think about as the situation unfolds so you can make decisions about your own investing strategy, about your own portfolio accordingly. Thank you all so much for listening to this episode of On The Market. I’m Dave Meyer. See you next time.