How a $10 Increase in Oil Prices Impacts the US Economy, According to the Fed

Rising oil prices are once again becoming a headache for the U.S. economy. According to the Federal Reserve’s FRBUS model—a widely used tool for forecasting U.S. economic performance—a $10 increase in oil prices has a noticeable impact on both inflation and GDP growth.

Key Findings from the Fed’s Model

The data shows:

1. GDP drops by 0.4%

Higher oil prices lead to increased production and transportation costs. This reduces consumer spending and slows down business investment, leading to a decline in economic growth.

2. Inflation rises by 0.2% initially

Since oil is used in everything from fuel to packaging and manufacturing, a rise in its price makes everyday goods more expensive.

3. Additional 0.15% inflation from second-round effects

Over time, as businesses pass these increased costs onto consumers and workers demand higher wages, inflation increases even more.

Rising Tensions in Middle East Push Oil Traders Into Action

Amid escalating tensions in the Middle East, an Iranian Member of Parliament has warned that Iran may close the Strait of Hormuz, a vital oil shipping route. This statement follows recent Israeli airstrikes on Iran and has sparked fears of a broader regional conflict. On Friday traders rushed to hedge against rising oil prices, buying 33,411 WTI crude August 2025 $80 call options—the highest volume seen since January. Overall, total trading volume in crude oil options surged to 681,000 contracts, signaling growing market anxiety over potential supply disruptions.

Why This Matters: The Bigger Picture

The rise in oil prices is adding to an already challenging economic situation often referred to as stagflation—a combination of high inflation and slow economic growth.But oil prices aren’t the only issue:

Tariffs (import taxes) also make goods more expensive and reduce trade, further slowing the economy.

Immigration restrictions reduce the labor supply, which can push wages up. While higher wages sound good, they also raise costs for businesses, leading to fewer job openings and slower employment growth.

Together, these forces are creating a perfect storm for the U.S. economy.

What This Means for the Federal Reserve

The Federal Reserve is in a tough spot. It uses interest rate decisions to manage the economy:

If it raises rates to fight inflation, it could make the economic slowdown even worse.

If it cuts rates to support growth, it risks letting inflation rise further.

With the next Federal Open Market Committee (FOMC) meeting just around the corner, the big question is: Will the Fed focus on rising inflation or falling growth?

Their decision could shape the direction of the U.S. economy for months to come.

Sources: Apollo Chief Economist, Federal Reserve Bulletin