Yale’s Stephen Roach: Markets are in danger of being ‘whipsawed’ by Middle East conflict, U.S. unemployment

Markets are in danger of being “whipsawed” by the combination of regional conflict in the Middle East and rising unemployment in the United States, says Stephen Roach, senior fellow at Yale Law School’s Paul Tsai China Center.

The conflict in the Middle East escalated on Tuesday, with Iran launching a ballistic missile attack on Israel after its killing of Hezbollah leader Hassan Nasrallah and an Iranian commander in Lebanon.

Most Asian markets fell on Wednesday, tracking losses on Wall Street overnight, as investors fretted over rising tensions in the Middle East.

“The markets really will not know where to turn,” Roach said, adding that conflicts in the Middle East are adding to inflationary risks at a time when global central banks are starting to ease monetary policy.

“We are likely to see significant increases in volatility and markets that really are whipped back and forth dramatically,” Roach told CNBC’s “Squawk Box Asia” on Wednesday.

The Israel Defense Forces said its troops had started launching new strikes against Hezbollah targets in Lebanon in response to Iran’s missile attack Tuesday night.

It remains to be seen whether there will be lasting effects on inflation, said Stephen Stanley, chief economist at Santander, adding that the oil market will be “affected more significantly” if the tension escalates.

Iran is the third-largest producer among the Organization of the Petroleum Exporting Countries, pumping out nearly four million barrels of oil per day, according to the Energy Information Administration. Oil prices had jumped over 5% after the missile strike before tapering to a 2% climb.

Whether the markets’ risk-off move will persist longer hangs on several key factors, one being the Israeli response to Iran’s attacks, said Kelvin Tay, regional chief investment officer at UBS Global Wealth Management.

“If it’s a measured response, not designed to hurt and kill at a wide scale … things in the Middle East could actually settle a little bit … you don’t get this escalation of fears of a regional-wide war in the Middle East,” he said.

Roach, meanwhile, said the escalation in Middle East brings upside risks to oil prices and inflation. “Central banks will certainly have to think twice about continuing down the path of further accommodation,” he told CNBC.

The U.S. Federal Reserve projected cutting interest rates by another half point over the next two policy meetings this year, according to the central bank’s so-called dot plot from the September meeting.

Traders are also looking to U.S. payroll data on Friday for more indications on the state of the economy after the U.S. Federal Reserve’s jumbo rate cut in September. A higher-than-expected unemployment rate could prompt the Fed to accelerate the easing cycle to achieve a soft landing.

The unemployment rate in September is expected to come in at 4.2%, according to data of a Reuters poll on LSEG, unchanged from the August figure. The unemployment rate had jumped to near a three-year high of 4.3% in July, a dramatic rise from the five-decade low of 3.4% in April 2023.

Another element that could propel further market volatility is how long dockworkers’ strikes at the U.S. East and Gulf coasts will last, Tay said.

Dockworkers at ports stretching from Maine to Texas have gone on a large-scale strike over disputes on wages and threats from automation. It’s expected to disrupt global supply chains and has halted the flow of nearly half of the country’s ocean shipping, Reuters reported.

“Any disruption of the port, any work stoppage at the port is going to have a very significant economic consequence and very quickly,” said Peter Tirschwell of S&P Global Market Intelligence, warning that “the longer this goes on, the quicker the economic damage will mount.”

Correction: This story has been updated to correct a quote from Kelvin Tay, regional chief investment officer at UBS Global Wealth Management.