South-east Asia’s central banks now face questions beyond oil shocks – peace deal or not

[SINGAPORE] A tumultuous first half of 2026 has forced the hand of some South-east Asian central banks to tighten monetary policy, as the US-Iran war continues to reveal its full impact on the region’s economies.

Hopes of a peace deal between the US and Iran that could relieve energy costs were dashed as both countries accused each other of breaking a ceasefire and launched new strikes, sending Brent prices up by about 5 per cent on Wednesday (Jul 8).

But analysts told The Business Times that volatile energy prices are no longer the only shock that South-east Asian economies will have to grapple with when deciding their monetary policy.

Rather, new dynamics in exchange rates, US Federal Reserve expectations, lagged inflationary impacts and even weather-related shocks will also weigh on central bank decisions in the second half of the year.

Before hostilities eased slightly in June, Brent crude oil prices had remained elevated above US$100 per barrel for several months following the outbreak of the conflict in February, along with spikes in fertiliser and liquefied natural gas costs.

These pressures have now escalated into what economists describe as “second-round” inflationary effects – the indirect, lagged effects of the initial price shock.

Regional policymakers in the Philippines and Indonesia have resorted to hiking rates as inflation and currency weakness threaten to spiral out of control.

In the Philippines, the Bangko Sentral ng Pilipinas (BSP) has increased the policy rate by 25 basis points twice in quick succession since the outbreak of the conflict, as the country’s inflation target range of 2 to 4 per cent remains far out of reach.

“The BSP’s focus is firmly on second-round effects rather than the initial supply shock,” noted Deepali Bhargava, head of research for Asia-Pacific at ING.

The country, which is heavily dependent on energy imports through the Strait of Hormuz, had its inflation spike sharply in April, peaking at 7.2 per cent year on year, before moderating to 6.4 per cent by June.

But expectations of a growth rebound in the second half of the year have offered the BSP room to hike, with the central bank’s governor Eli Remolona suggesting that the economy can handle one more hike this year.

Currency pressures

Still, analysts noted that even a de-escalation of the US-Iran conflict is unlikely to ease immediate pressures for the region’s economies.

“A durable improvement in the US-Iran situation would be broadly supportive for Asean,” said Desmond Fu, head of investment management for Singapore at Western Asset. Lower energy prices globally could ease pressure on domestic fuel costs, inflation and external balances, he noted.

“The macro benefits, however, are likely to become visible only gradually as lower energy costs work their way through the economy,” he added.

Elevated costs across supply chains will take longer to settle, explained Bhargava. Widespread shipment backlogs and logistical bottlenecks will take time to normalise, particularly in energy-intensive sectors, even if a de-escalation is reached.

Meanwhile, analysts believe currency weakness will continue to limit the speed at which the region’s central banks can pivot away from tightening, amid a hawkish tilt by the US Federal Reserve.

Higher interest rates in the US support the greenback while risking reduced capital inflows for regional economies, which could force South-east Asia’s central banks to delay further easing.

Also, weakening currencies can further amplify inflation as imports become more expensive, noted Fu. This could give central banks a stronger incentive to respond pre-emptively through defensive rate hikes.

This dynamic has already revealed its hand in Indonesia’s policymaking, which has largely aimed at defending a weak rupiah in the face of heavy outflows.

Headwinds such as uncertainty over fiscal strategy, sovereign credit ratings and the country’s broader growth agenda have kept investors cautious – with US Treasury yields now more attractive, noted Bhargava.

The resulting outflows have driven the rupiah to record lows as South-east Asia’s worst-performing currency this year, forcing Bank Indonesia to take defensive action through rate hikes. Indonesia’s central bank has raised policy rates by 100 basis points this year.

“The key shift is that geopolitics is becoming less of the dominant macro driver for Asia,” said Fu. “Currency performance is still likely to be driven primarily by US dollar dynamics, with Fed expectations now playing a larger role.”

Newly released minutes from the Fed’s Open Market Committee meeting in June revealed a growing hawkish tilt by its members, with several policymakers making the case for raising rates. A year-end hike looks to be increasingly likely as inflation persists, analysts noted.

Bhargava said that this stance will limit downside for the greenback, spelling concern for the Thai baht and Indonesian rupiah – which have led declines against the dollar among regional currencies this year.

Thailand’s central bank faces a similar burden to Indonesia’s. Growth remains sluggish, with gross domestic product projected to rise at a 2.3 per cent rate in 2026. The Bank of Thailand (BOT) maintained its benchmark rate at 1 per cent in late June, after pledging earlier this year to maintain its level “for as long as possible” to support the economy.

However, a weak baht and above-target inflation are likely to limit how long the BOT can retain its dovish stance. The baht has declined against the US dollar by about 7.5 per cent since the US-Iran conflict began, as rate differentials with the US limit the baht’s upside.

Meanwhile, the greenback’s strength is starting to put pressure on Vietnam’s central bank as it supports the dong in the foreign exchange market, balancing rising inflation, currency stability and an ambitious 10 per cent GDP growth target among its monetary policy priorities.

The Vietnamese dong has declined against the dollar by just under 1 per cent since the outbreak of hostilities in the Gulf, while inflation in June was slightly above the country’s 4.5 per cent target, at 4.7 per cent.

Elsewhere in South-east Asia, the central banks of Malaysia and Singapore have taken less aggressive action. Fu said that inflationary pressures remain contained across these countries, while artificial intelligence-related exports have kept growth afloat – albeit concentrated within a narrow set of industries.

Bank Negara Malaysia announced on Thursday that it would hold its benchmark rate at 2.75 per cent. It noted that second-quarter growth remained within expectations as global tech expansion supported domestic demand and export performance, while domestic policy measures kept inflation contained.

Storms ahead

But one wild card could still complicate the picture for the region’s inflation concerns, analysts warned.

“The next major macro risk for emerging Asia is likely to shift from geopolitics towards weather-related supply shocks associated with El Nino,” said Fu.

Goldman Sachs estimates that, combined with the effect of oil and fertiliser shocks, a severe El Nino could contribute one percentage point to South-east Asia’s food inflation after six months, then 2.1 percentage points after 12 months.

Indonesia, the Philippines and Thailand are particularly vulnerable to food-borne inflationary pressures, given the higher weightage of food within their consumer price index baskets, the bank found in a June report.

Bhargava said: “For now, a wait-and-watch approach is likely, with policymakers closely monitoring how weather-related disruptions feed through to food and core inflation dynamics.”