The energy shock highlights the disparities in Asia

The Asia-Pacific region is bracing for an economic shock linked to the conflict in the Middle East. While our baseline scenario still assumes that the repercussions of the conflict will remain manageable, the uncertainties surrounding it necessitate a more in-depth examination of two risk scenarios. Here, we analyze how China and other Asian markets—both developed and emerging—are positioned to withstand the effects.

The conflict has directly impacted the Gulf’s energy infrastructure, with strikes targeting facilities and transit routes, including the strategic Strait of Hormuz. In our base-case scenario , we project an average Brent crude price of USD 90 per barrel for the next six months, with a modest slowdown in global economic growth and inflation remaining manageable.

Another, less likely but more damaging scenario would see the conflict escalate significantly, triggering a global slowdown in growth due to inflation and an average oil price of USD 115 per barrel for six months. To reach this level, prices would need to peak around USD 150 per barrel before falling back. At the most extreme stage of escalation, a protracted war with an average oil price of USD 150 for nine months—peaking at nearly USD 200—would lead to a stagflationary shock, straining supply capacity and potentially triggering export restrictions. Neither of these escalation scenarios constitutes our base case, and both would imply a political setback for President Trump ahead of the November midterm elections.

For investors, it is essential to know how China and the wider Asia-Pacific region will absorb such pressures, given their heavy reliance on imported energy and the crucial role of oil and gas in transport, industry and power generation.

Extreme scenarios: unavoidable short-term evils

In these extreme scenarios, with average oil prices at USD 115 or USD 150 per barrel for the next six to nine months, the Asia-Pacific region would undoubtedly experience a painful period of adjustment. Together, the developed and emerging economies that make up the MSCI Asia-Pacific stock index source approximately a quarter of their annual energy consumption from foreign sources. This dependence is even significantly greater for natural gas and oil.

A prolonged conflict keeping energy prices at prohibitive levels clearly risks causing serious shocks to the continent’s economic activity and depleting savings in the public and private sectors.

By comparison, the United States produces more energy than it consumes from all major sources combined. Given this well-known Asian vulnerability, a prolonged conflict keeping energy prices at prohibitive levels clearly risks causing severe shocks to the continent’s economic activity and depleting public and private sector savings. Consumer price inflation would also soar, forcing the region’s central banks to simultaneously combat above-target inflation and weakening currencies.

To mitigate potential shortages in extreme scenarios, governments in the region have implemented export restrictions, industrial rationing frameworks, or reduced weekly working hours in the public sector. Some countries are also turning to coal-fired power plants to reduce their natural gas imports, while simultaneously accelerating their search for alternative energy sources, including renewables. Larger economies have some options for preserving essential economic activities, even though short-term difficulties are inevitable.

According to our analysis, China appears relatively insulated from the magnitude of the shock. Its strategic reserves allow it to draw on oil stocks for up to 100 days, with additional stocks of refined products. Its relationships with alternative oil suppliers, including Russia, offer further protection, and Iran allows Chinese ships or ships bound for China to transit through the Strait of Hormuz, subject to a transit tax , thus guaranteeing at least partial deliveries.

China’s Structural Resilience

In recent years, China has also increased its electricity generation capacity from renewable energy sources and potentially coal, providing alternative energy sources in the face of rising prices or shortages of imported hydrocarbons. Since the electricity shortage caused by the 2022 drought, China has deliberately underutilized its expanding thermal power generation capacity—most of which still relies on coal—to maintain a backup solution, and is expected to increase its use should the energy crisis worsen. The Chinese authorities’ long-term strategy focused on electrification, and in particular the shift from internal combustion engine vehicles to electric vehicles, further strengthens this resilience by reducing the country’s exposure to price spikes. The country’s extensive high-speed rail network will also mitigate the reduction in domestic flights resulting from higher kerosene prices. These factors help explain why the outlook for inflation and growth is deteriorating less in China than in most developed and emerging Asian economies, under equivalent oil price assumptions.

The Chinese authorities’ long-term strategy focused on electrification, and in particular the shift from internal combustion engine vehicles to electric vehicles, further strengthens this resilience by reducing the country’s exposure to price spikes.

In our baseline scenario, we see China’s real GDP growth falling to 4.2%, with average inflation of 1.2% in 2026. In early March, China’s National People’s Congress (NPC) set a growth target range for the current year in line with these projections. The authorities also maintained the budget deficit target at 4% of GDP, suggesting limited additional fiscal support and continued restrained monetary easing, thus allowing for greater flexibility in responding to shocks.

The situation is more nuanced outside of China.

Australia, Indonesia, and Malaysia produce more energy than they consume, but their reliance on imported petroleum products, such as diesel, varies. In Indonesia and Malaysia, we are monitoring the budgetary costs of maintaining fuel subsidies, but it is uncertain whether these governments would risk a potential political backlash by making retail prices entirely market-determined. Other Asian economies have a significantly smaller share of their energy consumption from domestic sources (see Table 1, page 5), but many have substantial reserves or financial resources to protect themselves against short-term shocks. Japan and South Korea, in particular, have both built up significant strategic oil reserves. This reflects their long-standing exposure to geopolitical risks.

In the event of an energy crisis, Japan could bolster its nuclear and renewable energy production to reduce its reliance on fossil fuels. Following the Fukushima disaster in 2011, the country significantly reduced its nuclear power generation due to public concerns about the safety of such infrastructure. Amid a geopolitical crisis and with a more pro-nuclear government, this restrictive stance could be gradually revised to offset the expected decline in liquefied natural gas (LNG) imports in the coming years. Japan can restart decommissioned reactors through faster regulatory approval processes. Current nuclear power generation—including that of plants recently restarted under the Takaichi administration—represents just under a third of the peak output of 2000. Meanwhile, renewable sources account for approximately 27% of electricity generation and could see their share rise to 40% within the next decade.

As net importers of oil and gas with smaller reserves, India, Thailand, and the Philippines are likely to be more exposed in the short term. In more vulnerable economies, rising prices quickly impact transportation, manufacturing, and food production, and these difficulties are becoming evident in Asia’s “frontier” markets, such as Sri Lanka and Myanmar. Many of these economies will be unable to ignore global inflation, as a significant portion of consumption is devoted to energy and food.

The main risk today is therefore that central banks will raise their key interest rates in a context of energy-related slowdown, further hindering economic growth.

Monetary flexibility

Were it not for the conflict, the major central banks, including the Federal Reserve, the European Central Bank, and the Bank of England, would have lowered their interest rates or kept their policy rates unchanged. Rising oil prices are already influencing central bank forecasts, with markets anticipating a more restrictive monetary policy path, even though policymakers will, in our view, seek to avoid a repeat of the 2022 tightening cycle. Indeed, the risk of a monetary policy error will increase if price pressures persist. The main risk today, therefore, is that central banks will raise their policy rates in the context of an energy-related slowdown, further hindering economic growth.

In Asia, constraints on monetary policy are exacerbating these pressures. Many central banks in the region must balance the risk of imported inflation with considerations of financial stability and external balance dynamics. With high energy prices and exchange rates sensitive to any perceived shift in monetary policy, the scope for easing is limited. In markets such as Indonesia, Thailand, and the Philippines, the room for rate cuts would diminish considerably in the event of a prolonged war and persistently high oil prices.

Markets are already adjusting to these concerns, reflecting the risk that short-term inflation shocks could translate into expectations of persistently higher prices. In Australia and Japan, the crisis will lead to further monetary policy tightening by the end of the year. We now expect a final rate hike by the Australian Federal Reserve in May, and two hikes by the Bank of Japan in April and October.

Taking profits on our exposure to emerging markets

The investment implications reflect this divergence within Asia. In China, the combination of relative energy resilience, additional fiscal capacity, and attractive valuations supports selective exposure to certain equities over the medium term. This is particularly true for technology sectors, which benefit from government support and the expansion of domestic computing capacity. In China, earnings growth is expected to accelerate significantly in 2026, and the valuations of many technology stocks remain lower than their US counterparts, even as the government’s drive to achieve technological self-sufficiency intensifies. In Japan, short-term resilience will be supported by substantial oil reserves and the option of nuclear power, while corporate governance reforms continue to provide positive momentum for the stock market. In South Korea, semiconductor producers remain well positioned despite market fluctuations, and the recent correction has opened up opportunities at valuations well below long-term averages.

The challenges facing emerging Asia excluding China and South Korea, which represents about a quarter of the emerging market equity index, argue in favor of a neutral stance.

Conversely, the challenges facing emerging Asia excluding China and South Korea, which represents roughly a quarter of the emerging market equity index, argue in favor of a neutral stance. In mid-March, we reduced our allocation to emerging market equities, taking profits to bring our exposure back to a neutral level. Emerging market stock markets are more sensitive to oil shocks than developed markets, which could lead to increased volatility before the outcome of the Iranian conflict becomes clearer. That said, markets are still anticipating an inflationary shock rather than a growth shock, thus preserving the fundamental drivers of corporate performance.

This neutral stance allows us to remain invested while maintaining the flexibility needed to react quickly to evolving circumstances. It also reflects the somewhat restrained but fragile reaction of global financial markets to date. For now, corporate profits are holding up well. Nevertheless, the possibility of further disruptions to critical energy supply points, combined with the risk of export restrictions and the sensitivity of Asian economies to fuel costs, requires caution while visibility remains limited.

The Asia-Pacific region will remain at the heart of the global response to any further escalation of the conflict. As the situation evolves, we will continue to analyze its impact on the region and maintain the flexibility to adjust our positioning.