War and climate change are the main obstacles to aggressive Fed rate cuts in 2024, strategists say

Tumult in the Middle East and a parched Panama Canal risk creating pandemic-like supply shocks that could stoke more inflation.

• War and climate change are the main risks that could threaten aggressive Fed rate cuts, Macquarie said.
• That's because conflicts in the Middle East and a parched Panama Canal risk creating supply shocks that stoke inflation.
• "Those [disruptions] may keep yields and breakevens from falling, and cause the Fed's easing to be less intense when it comes."

What might cause the Federal Reserve to turn cautious on rate cuts? Mounting global tensions and parched waterways stalling global trade.

According to strategists at Macquarie, geopolitical tensions and droughts drying up key trade lanes could pin inflation above 2%, forcing the Fed to stay away from steep rate cuts.

"War and climate change are becoming the main risk to the view that the Fed cuts aggressively," analysts led by Thierry Wizman wrote in a note on Friday. 

Freight flows are stalling amid mounting attacks in the Red Sea from Houthi rebels while the Panama Canal remains far too parched to transport as many vessels.

That's inviting flashbacks of pandemic-era supply shocks, Wizman said.

"Those [disruptions] may keep yields and breakevens from falling, and cause the Fed's easing to be less intense when it comes," he wrote.

Basically, it's getting more expensive to lug cargo across the waters of the Middle East. The Drewry World Container Index tracking container costs shows prices have surged over 122% since the start of December.

Shipping giants like Maersk and CMA CGA have been imposing surcharges for ships steering away from the region, as detours around Africa add several days to the voyage.

The risk was on display Friday, when oil prices spiked after the the US and UK launched airstrikes against Yemen-based Houthi militias.

Such turmoil can end up pinching consumers because the Red Sea is a major shipping artery — the Suez Canal, which connects the Red Sea to the Mediterranean Sea, carries about 12% of global trade.

And as vessels reroute and freight costs soar, a huge chunk of global shipments just got a lot more expensive to transport, which could push prices up and delay a Fed rate cut.

There's trouble in the Panama Canal too. A major drought has dried up the waterway, restricting the number of vessels that can pass through and creating a massive snarl-up at yet another critical junction of global trade.

"The series of locks connecting the Atlantic Ocean to the Pacific via these fresh-water lakes are close to the point of being too shallow to let the largest container ships through fully stocked," Wizman wrote.

And too little water isn't the only climate risk. In November, the International Monetary Fund released a report that said increasingly frequent droughts, floods, and storms are posing a "serious threat to maritime infrastructure."