State of the
Global Economy
Q3 2026
A war in the Middle East. An oil crisis. Equity markets hitting records anyway. A British prime minister on the way out. Here is where the global economy actually stands entering Q3.
The IEA has characterised the Strait of Hormuz closure as the largest supply disruption in the history of the global oil market — two to three times larger than the 1973 oil crisis. The World Bank forecasts energy prices to rise 24% in 2026. Brent crude is expected to average $86 a barrel, up from $69 in 2025, with a severe scenario pointing to $115.
The S&P 500 has hit new all-time highs since the war began. Most major equity benchmarks and high yield spreads are back near pre-war levels. Markets appear to be pricing in a contained, short conflict. If that assumption is wrong, the repricing could be sharp and fast.
Keir Starmer is expected to resign as Prime Minister, making him the sixth PM to leave office in ten years. UK 10-year gilt yields spiked above 5.1% on leadership uncertainty. Sterling fell. Andy Burnham won the Makerfield by-election on June 18, positioning himself as the leading candidate to succeed Starmer. The UK’s fiscal position was already fragile before this.
Capital Economics forecasts US GDP growth at 2.25% in 2026, outperforming every other major developed economy. But the Dallas Fed estimates the Iran war will add 0.6 percentage points to US headline inflation by Q4 2026. The Fed is expected to hold rates flat through 2026, delaying the cuts markets had been hoping for.
If the war continues for several months, Eurozone GDP growth could slow to 0.5% year on year in the second half of 2026. China’s growth could fall below 3%. About 80% of Persian Gulf oil exports go to Asia, making the region disproportionately exposed to any prolonged Strait of Hormuz closure.
On February 28, 2026, US and Israeli forces launched joint airstrikes on Iranian leadership and military infrastructure. The operation, codenamed “Epic Fury,” assassinated Supreme Leader Ali Khamenei. Iran retaliated with missile and drone strikes across the region. The Strait of Hormuz, through which roughly 35% of global seaborne crude oil trade passes, closed.
The IEA called it the largest supply disruption in the history of the global oil market. That is not hyperbole. The initial reduction in global oil supply was around 10 million barrels per day. For context, the 1973 Arab oil embargo removed roughly 4 million barrels per day. This is two to three times larger than any previous geopolitical oil supply disruption.
The oil price responded immediately. WTI crude, which was trading around $60 per barrel in late January, surged to peak levels in April and May. The World Bank now forecasts Brent crude to average $86 a barrel for 2026 as a whole, up from $69 in 2025. A severe scenario, in which critical oil facilities suffer more damage and the Strait remains closed longer, points to an average of $115.
The consequences are still rippling outward. Food prices have surged because fertiliser prices are closely tied to energy costs. Precious metal prices are up 42% on average in 2026 as investors rush to safe haven assets. Base metals including aluminium, copper, and tin are expected to hit all-time highs, driven partly by AI data centre construction and partly by supply chain disruption.
The World Bank’s Chief Economist Indermit Gill summarised it well: “The war is hitting the global economy in cumulative waves: first through higher energy prices, then higher food prices, and finally, higher inflation, which will push up interest rates and make debt even more expensive.”
This is the thing that confuses most people looking at the headlines. There is a war. There is an oil crisis. There is political instability in a G7 country. And yet the S&P 500 is near record highs. How?
The short answer is that markets are pricing in a specific scenario: a short, contained conflict that ends within weeks and allows the Strait of Hormuz to reopen gradually by late 2026. Under that scenario, as Capital Economics noted, “outside the Gulf economies, the impact on GDP, inflation and monetary policy will be limited.”
The longer answer involves AI. The technology sector, and specifically the AI infrastructure buildout, has been a powerful counterweight to geopolitical risk in equity markets this year. Companies spending hundreds of billions of dollars on data centres, GPU clusters, and power infrastructure are generating enormous demand that keeps corporate earnings strong even as energy costs rise. The AI boom is, in a real sense, an economic shock absorber for equity markets right now.
Markets are not ignoring the war. They are betting it ends quickly. If that bet is wrong, the repricing will be fast and painful.
The risk is obvious. If the conflict extends beyond the few weeks that markets are pricing in, the macro consequences become significantly worse. Eurozone growth slows sharply. Asian economies, which depend most heavily on Persian Gulf oil, come under serious pressure. The inflation that central banks thought they had under control resurfaces. And the equity markets that priced in the optimistic scenario would need to reprice quickly to reflect something much more difficult.
Morgan Stanley noted that a prolonged conflict would lead to higher US defence outlays and larger deficits, putting upward pressure on long-term bond yields — which is a headwind for both equity and fixed income assets simultaneously. That is the scenario investors are not currently positioned for.
GDP growth forecast at 2.25% for 2026, the strongest of any major developed economy. The AI infrastructure buildout is a genuine domestic economic driver. The Fed is expected to hold rates flat through 2026. The main risk is inflation from oil prices — the Dallas Fed estimates the war adds 0.6 percentage points to headline PCE inflation by Q4 2026. SpaceX’s emergence as a quasi-public infrastructure company, with its Starship programme and satellite network, is increasingly part of the US economic story in ways that traditional GDP accounting does not fully capture.
Keir Starmer is expected to resign as Prime Minister, extending Britain’s extraordinary run of political instability — six PMs in ten years if he goes. UK 10-year gilt yields spiked above 5.1%, the highest level since 2008, on leadership uncertainty. Sterling fell. The Labour Party’s internal contest to succeed Starmer is under way, with Andy Burnham — who won the Makerfield by-election on June 18 with 54.8% of the vote — the leading candidate. Citi warned the leadership change could trigger a “leftwards shift in Labour policies and more expansionary fiscal policy,” which markets would not welcome given the UK’s already fragile fiscal position.
If the Iran war continues for several months, Eurozone GDP growth could slow to just 0.5% year on year in the second half of 2026. The ECB faces the same dilemma as the Bank of England: energy-driven inflation argues for tighter policy, but weak growth argues against it. Swap markets are pricing in 25 basis point rate hikes from the ECB three times in 2026. The EU’s AI Continent Action Plan — a 200 billion euro initiative — is the main structural positive, but it will take years to generate economic impact. Germany, the bloc’s largest economy, completed a 45-company four-day week pilot in 2024, but industrial competitiveness remains a concern given high energy costs.
About 80% of Persian Gulf oil exports go to Asia, making the region by far the most exposed to a prolonged Strait of Hormuz closure. China’s growth could fall below 3% year on year if the war continues for several months. Japan has restarted more than a dozen nuclear reactors and is building new ones partly in response to energy security concerns laid bare by the Iran conflict. South Korea and India are also heavily exposed as oil importers. The Bank of Japan raised rates to 1% in June, the highest since 1995, partly in response to the yen weakness driven by imported inflation from higher oil prices — an issue we covered in depth in our analysis of Japan’s yen problem.
The UK deserves its own section because what is happening there is not just about one prime minister. It is about a structural breakdown in political governance that has been building since 2016.
Starmer came to power in July 2024 promising stability. He won a landslide majority of 172 seats. He was going to be the grown-up after years of Conservative chaos. Within months, his approval ratings were collapsing. By November 2025, his net approval rating was minus 46%. By mid-May 2026, over 95 Labour MPs had called on him to resign. The Health Secretary resigned. Three Defence Ministry officials resigned. On June 18, Andy Burnham won the Makerfield by-election with 54.8% of the vote, positioning himself as the obvious successor.
The economic consequences of this political instability are real and immediate. When gilt yields spiked above 5.1% on leadership uncertainty, Quilter Cheviot’s Richard Carter warned that “higher gilt yields tend to feed through fairly quickly into the real economy. Mortgage rates are closely linked to government bond yields.” For ordinary UK homeowners — millions of whom are coming off fixed-rate mortgage deals in 2026 and 2027 — this political theatre has direct financial consequences.
The deeper problem is structural. Growth and living standards have stagnated. The cost of living crisis that began with COVID and was amplified by the Russia-Ukraine war has never really ended. Reform UK, led by Nigel Farage, is now ahead in national polling. Labour lost 1,400 council seats in the 2026 local elections. The Conservatives are also struggling. The political centre is hollowing out at exactly the moment when the UK needs stable governance to navigate the oil shock, the AI transition, and the fiscal challenges of an ageing population.
Watch #1 — The Strait of Hormuz
The baseline assumption in most economic forecasts is that the most acute disruptions end in May and that shipping gradually returns to pre-war levels by late 2026. US and Iranian officials met at Switzerland’s Burgenstock resort in late June to kick off a 60-day negotiation period. If those negotiations fail, or if Iran closes the Strait again as it threatened to in late June, the economic forecasts need to be torn up and rewritten. This single variable drives more economic uncertainty than anything else on this list.
Watch #2 — UK Leadership Transition
A Labour leadership contest to replace Starmer will determine whether the UK gets a government that reassures bond markets or one that triggers another Truss-style gilt crisis. The early favourite is Andy Burnham. Markets and businesses need to watch the fiscal signals from whoever takes over — any move toward significantly looser fiscal policy could send gilt yields higher again and squeeze the UK economy further at a moment when it is already under pressure from energy costs.
Watch #3 — Central Bank Decisions in July and September
The Fed, ECB, and Bank of England all have major rate decisions in Q3. The market is currently pricing the Fed flat, and the ECB and BoE hiking 25 basis points three times each in 2026. If oil prices moderate faster than expected, there is room for a more dovish turn. If the war extends or prices stay elevated, the hikes may need to be larger. These decisions will have a direct impact on borrowing costs, mortgage rates, and business investment across all major economies.
The global economy in mid-2026 is a study in contradictions. Equity markets are near record highs while an oil crisis of historic proportions plays out. The US is growing while the UK is in political freefall. AI is generating extraordinary investment while a war threatens to undo the inflation progress of the past two years. The contradictions are held together by one central assumption: that the Iran conflict ends quickly. If that assumption holds, Q3 2026 will be remembered as a scare that didn’t materialise. If it doesn’t hold, this will be the moment markets look back on and ask why they didn’t take it more seriously.
Data draws from the World Bank Commodity Markets Outlook April 2026, Federal Reserve Bank of Dallas Iran war inflation analysis, Capital Economics, Morgan Stanley, ICG Asset Management, CNBC, and AJ Bell market reporting. All figures accurate as of June 22, 2026.
This report represents the editorial opinion of AllinAllSpace and does not constitute financial or investment advice. AllinAllSpace is not a registered investment advisor.