The conflict in the Middle East, which began with US and Israeli strikes on Iran on February 28, has sent shockwaves through global energy markets . International oil prices have breached the $100-per-barrel threshold, and despite efforts by the International Energy Agency to calm markets through strategic reserve releases, concerns over supply disruptions persist . For Asia, a region heavily dependent on imported energy, this price surge is not just another market fluctuation. It is a fundamental shock that threatens to reshape inflation trajectories, force difficult monetary policy choices, and test the resilience of economies from Tokyo to New Delhi. Central banks across the region now face a brutal dilemma: raise interest rates to contain inflation and risk slowing growth, or hold steady to support expansion and watch currencies weaken and prices rise further . This explainer examines how the energy shock is affecting Asian economies, what policy tools are available, and what it means for households, businesses, and investors.
How Vulnerable Is Asia to Oil Price Shocks?
Asia’s vulnerability to oil price shocks stems from a simple but powerful reality: the region is a massive net importer of energy. Apart from Malaysia and Australia, every major Asian economy runs a sustained deficit in oil and gas trade, leaving them exposed when global prices surge . This dependence is particularly acute for certain countries. Japan and the Philippines rely on the Middle East for almost 90 percent of their oil needs. India imports approximately 46 percent of its crude from the region, while China sources about 38 percent . The Strait of Hormuz, through which about 20 percent of global oil flows, is the critical chokepoint for these supplies .
When oil prices rise, the effects ripple through Asian economies through multiple channels. The most direct is the impact on trade balances. Higher import bills widen current account deficits, putting pressure on currencies. A mere 10 percent rise in oil prices can deteriorate current account balances by 40 to 60 basis points for the most exposed economies, including Thailand, Korea, Vietnam, Taiwan, and the Philippines . Even a short-lived price spike can have outsized effects on currency markets. ING analysts note that the brief oil price jump in June 2025 was enough to pull down the Philippine peso, Korean won, Thai baht, and Japanese yen by roughly 1.5 to 3 percent .
The second channel is inflation. Energy makes up a relatively large share of consumer inflation baskets across emerging Asia, and higher fuel costs often drive food prices higher as well . The most exposed economies, like India and the Philippines, could see inflation rise by as much as 0.4 percentage points for every 10 percent increase in oil prices . For countries where food accounts for 25 to 45 percent of the CPI basket, this pass-through is particularly potent .
The third channel is growth. Higher energy costs act like a tax on households and businesses, reducing real income and dampening consumption. Goldman Sachs has already lowered its growth forecasts for most Asian economies by 0.3 to 0.5 percentage points to reflect the impact of higher oil prices . For Japan, a full year of oil prices around $110 per barrel could shave nearly half a percentage point off national growth—a massive blow for an economy that typically sees potential growth under one percent .
How Are Central Banks Responding to the Dilemma?
Central banks across Asia face an excruciating choice. Oil-led inflation is a supply shock: it raises prices while also risking slower growth. Interest rates can manage demand, but they cannot control supply . This means that raising rates to combat inflation risks deepening an economic slowdown, while holding steady risks allowing inflation to become entrenched and currencies to weaken further.
The response so far has varied depending on each economy’s starting conditions, policy frameworks, and vulnerabilities. In South Korea and Taiwan, where reliance on imported natural gas for power generation is high, central banks are expected to maintain cautious stances . The Bank of Korea is likely to keep rates steady for now, but if inflation continues to overshoot targets significantly, a more hawkish tone will become inevitable . Taiwan’s central bank faces similar pressures, though state-owned CPC Corporation absorbing some of the cost increase through price caps provides a temporary buffer .
Japan presents a unique case. The Bank of Japan has spent decades trying to generate healthy inflation, but now finds itself with perhaps too much of a good thing. Inflation has remained above the two percent target for nearly four years, leaving little room to ignore current price spikes . Yet raising rates aggressively could choke off a fragile recovery. Morgan Stanley MUFG Securities suggests that the possibility of a near-term rate hike has diminished further, and even the June hike that was previously the base scenario could be pushed back if Middle East tensions persist . Paradoxically, the oil shock also helps the Bank of Japan avoid an awkward situation: before the price surge, defending further rate hikes was difficult with overall inflation below target; higher energy costs provide some cover .
India’s Reserve Bank is expected to prioritize growth by keeping rates unchanged for now, but the pressure on the rupee is intense . Economists suggest that while a near-term rate hike may not be imminent, the central bank will likely have to ramp up foreign exchange interventions to dampen volatility and prevent a currency freefall . Morgan Stanley notes that with inflation risks accumulating, the RBI may maintain rates for longer than previously anticipated .
Southeast Asian economies are being forced to reconsider dovish stances. Thailand and the Philippines, where high energy prices are already hurting manufacturing and consumer sectors, may need to pivot toward higher rates to protect their currencies . The Philippines is particularly vulnerable because retail fuel prices are more market-driven and subsidies are limited, meaning the inflation pass-through is stronger . Bangko Sentral ng Pilipinas could see inflation pushed to the upper end of its 2 to 4 percent target range, increasing pressure to hold rates rather than cut further .
Australia, despite being a net energy exporter, faces its own challenges. Sustained high energy costs could anchor inflation expectations at dangerous levels, forcing the Reserve Bank to keep rates high for longer than planned . Moody’s analyst Sunny Kim Nguyen suggests that another 25-basis-point rate hike this month is increasingly likely, as the oil shock adds urgency to already-existing tightening arguments .
What Tools Do Governments Have Beyond Monetary Policy?
Central banks are not the only actors responding to the crisis. Governments across Asia are deploying a range of fiscal and administrative measures to cushion the blow, with choices reflecting their fiscal positions, political constraints, and long-term priorities .
One option is for governments to absorb costs directly through subsidies. Indonesia has reaffirmed support for its fuel subsidy program to shield domestic consumers and limit inflation . Japan is also weighing subsidy measures to cushion households and businesses. However, such policies are expensive. Indonesia faces particular sensitivity given concerns over its fiscal position; keeping the budget deficit within the legal limit of 3 percent of GDP would require spending cuts elsewhere or tax increases, both politically difficult . Relaxing fiscal rules temporarily, as was permitted during the pandemic, could undermine longer-term confidence .
A second approach involves price controls that require companies to absorb higher costs rather than pass them on. South Korea and Taiwan have both proposed limits on fuel prices . In Taiwan, much of the cost increase is absorbed by state-owned CPC Corporation, while in South Korea, private refiners bear the burden. Compared to large subsidy programs, these policies can limit direct fiscal costs, but the overall impact depends on whether affected companies are state-owned or require compensation .
At the other end of the spectrum, some governments are passing higher costs directly to consumers. Pakistan, facing weak fiscal and external positions, raised petrol prices by 20 percent . Sri Lanka imposed an 8 percent increase. This approach limits fiscal costs and encourages efficient energy use, but immediate consequences include higher inflation, slower growth, and greater risk of social unrest. For countries with fragile public finances, particularly in Southern Asia, allowing prices to rise may be the only viable option .
Beyond pricing, some governments are seeking to reduce energy demand directly. The Philippines has introduced a four-day working week for government employees. Bangladesh has moved to ration petrol. Vietnam is encouraging working from home, though not enforcing it yet . Such measures can quickly reduce consumption, which is important for economies running current account deficits or facing potential supply shortages. However, rationing through administrative controls rather than price signals often leads to inefficient allocation and can disrupt economic activity over time .
Governments are also exploring supply-side measures. Releasing strategic petroleum reserves, as Japan is reportedly considering, injects additional oil into the market and helps cushion near-term shortfalls . Reserve capacity varies widely: Japan, South Korea, and China maintain large crude stockpiles, while India has expanded storage capacity in recent years. Much of Southeast Asia holds relatively limited reserves, leaving several economies more exposed to prolonged volatility .
Some countries are turning to alternative fuels. China and Japan have increased coal usage to reduce reliance on more expensive imported LNG, a step also being considered in Taiwan . While this substitution may alleviate short-term shortages and reduce import costs, it results in higher carbon emissions and risks undermining medium-term decarbonization goals.
Over the longer term, the crisis has highlighted Asia’s heavy dependence on Middle Eastern energy. One likely policy response is a renewed effort to diversify supply away from the region, as Japan has pursued in recent years . This could involve sourcing more fuel from the US, Australia, and Africa, alongside greater investment in domestic production, renewable energy, and strategic reserves. Such measures would prove costly initially but would strengthen energy security and reduce exposure to future geopolitical shocks .
What Are the Risks to Currencies and Capital Flows?
The energy shock is playing out against a backdrop of broader financial market dynamics that amplify its effects. As investors flee toward the safe-haven US dollar, emerging Asian currencies are coming under pressure . This capital flight is not just a symptom of the crisis; it is a mechanism that transmits and magnifies the shock.
When oil prices rise and the dollar strengthens, oil-importing Asian economies get hit twice: higher import bills worsen trade balances, and capital outflows weaken currencies . A weaker currency, in turn, makes imported energy even more expensive in local terms, fueling further inflation. This feedback loop can become self-reinforcing if not managed carefully.
South Korea has been a standout example. The KOSPI fell more than 8 percent in early March, and the won briefly weakened past 1,500 per dollar—its softest level in 17 years—before stabilizing after the central bank signaled it could step in . The episode illustrates how quickly sentiment can turn when energy shocks combine with broader risk aversion.
The dollar’s strength also complicates the outlook for US monetary policy. Goldman Sachs has pushed back its expectations for Federal Reserve rate cuts from June and September to September and December, citing high oil prices as a factor keeping inflation elevated . A later Fed easing cycle means US interest rates remain higher for longer, maintaining the dollar’s yield advantage and keeping pressure on emerging market currencies .
For Asian central banks, this creates an additional constraint. Even if domestic economic conditions argue for rate cuts, the need to defend currencies may force a more hawkish stance. As one analyst put it, many central banks are now “trapped between the demands of their governments to keep growth alive and the harsh reality of the global markets” .
How Do Current Vulnerabilities Compare to Past Crises?
BNP Paribas offers a somewhat reassuring perspective: while emerging economies face a renewed stagflationary energy shock, they are generally not more vulnerable than in 2022 . Several mitigating factors distinguish the current situation.
First, the surge in hydrocarbon prices has not spilled over into major agricultural commodities. Wheat, corn, cotton, and rice prices remain stable, unlike in 2022 when food price inflation compounded energy shocks . This limits the broader inflation impact and reduces pressure on household budgets.
Second, although Asian countries are directly affected by supply disruptions, they are benefiting more than other emerging markets from the artificial intelligence boom. Tech-heavy economies like South Korea and Taiwan have seen strong export performance and investment inflows that partially offset energy-related pressures .
Third, financial conditions have remained relatively stable. While domestic interest rates have faced upward pressure, the increases have been moderate—35 basis points or less across most of Asia, with the Philippines an outlier at 70 basis points . Foreign exchange reserves are generally stronger than in previous crisis periods, providing buffers against currency volatility.
However, these aggregate figures mask significant variation. Low-income and frontier markets face higher solvency and external liquidity risks. Countries like Pakistan, Sri Lanka, and others with weak fiscal positions and limited reserves have little room to maneuver . For them, the choice between absorbing costs through subsidies or passing them to consumers is existential.
What Does This Mean for Households and Businesses?
For ordinary households across Asia, the energy shock translates into higher prices at the pump, larger electricity bills, and more expensive food as transportation costs rise. In countries where fuel subsidies cushion the blow, the relief may be temporary and come at the cost of higher taxes or reduced public services elsewhere.
For businesses, particularly manufacturers and exporters, higher energy costs squeeze margins just as global demand may be softening. Exporters that have been diversifying into Middle Eastern markets face a double blow: not only are energy costs rising, but the very markets they have been cultivating are now disrupted by conflict . India and China, which have significant export exposure to the Gulf region, are especially vulnerable on this front.
The impact varies by sector. Energy-intensive industries like petrochemicals, metals, and cement face immediate cost pressures. Transportation and logistics companies must either absorb higher fuel costs or pass them to customers, potentially dampening trade volumes. Retailers and consumer goods companies face the challenge of managing inflation expectations while maintaining sales volumes.
For investors, the environment demands caution. “Crowded” trades like technology stocks that rallied earlier in the year now look more sensitive to growth and rate scares . Currency volatility adds another layer of complexity for those with cross-border exposures. As one analysis noted, “higher energy prices tend to punish oil importers and reward safety, so investors often cut exposure to emerging Asia first” .
Conclusion
The energy shock unleashed by the Middle East conflict confronts Asian economies with one of their most complex policy challenges in years. Central banks must navigate between the Scylla of inflation and the Charybdis of slowing growth, with currency markets and capital flows adding further complications. Governments must choose who bears the burden of higher energy costs, balancing fiscal sustainability against social stability and political survival.
The immediate outlook is uncertain and depends heavily on how long oil prices remain elevated and whether supply disruptions worsen. What is clear is that the era of low and stable energy prices that underpinned much of Asia’s growth over the past decade has ended, at least for now. Economies that can adapt—through diversification of energy sources, investment in efficiency and renewables, and maintenance of policy credibility—will emerge stronger. Those that cannot face a more difficult path.
For households and businesses, the message is one of resilience and adaptation. Higher energy costs are likely to persist, and the policy responses to them will shape economic conditions for years to come. Understanding the dynamics at play—the trade-offs central banks face, the tools governments are deploying, the risks to currencies and growth—is essential for navigating the uncertain road ahead. As the International Monetary Fund has warned, resilience is being tested on a scale not seen in years, and the next several months will be a defining period for the global financial order .
