This month, Frontier’s focus turns to what this means for 2026 and 2027. The fundamental drivers underpinning consumer momentum; private sector credit expansion, rising formal sector activity, improving household incomes, and an upward shift in consumer preferences, remain broadly intact. At the same time, the price dynamics introduced by the US-Iran conflict represent a near-term disruption, and our analysis examines how this interacts with an otherwise strong consumer trajectory.

A key theme in this month’s report is what we characterize as consumer “upshifting”; a discernible movement across income brackets and consumption tiers that we believe is now structurally underway. We explore how this transition is unfolding across different segments of the population, where it is most concentrated, and how cost pressures may temporarily alter, without fundamentally reversing, its direction.

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Our clients would have already received a detailed report to their emails on this; alongside the numbers we associate with each of these varied scenarios. The full report has also been accessible on our Athena reports platform since the 29th of May 2026. If you still haven’t had a chance to read through it, click here! If you are yet to be a subscriber, please do get in touch with us for a trial subscription to our reports at clientconnect@frontiergroup.info.

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Disclaimer: Information collected/analyzed is from sources believed to be reliable or from the Central Bank/Government. Frontier Research Private Limited however does not warrant its completeness or accuracy. Opinions and estimates given constitute our judgment as of the date of the material and are subject to change without notice. The reports and presentations given are not intended as an offer or solicitation for the purchase or sale of any financial instrument. The reader must make their own independent decision regarding any securities or financial instruments mentioned herein. Securities or financial instruments mentioned may not be suitable to all investors. This communication including any attachments contained herein is governed and bound by the “Confidentiality and Disclaimer” detailed and available for your specific reference at our corporate website.

Part of this is also due to the current war, which we see two broad pathways where the could unfold. In one avenue, a prolonged limbo that gradually deescalates is possible, where escalations exist but at much lower intensity than in the last few months. In the other, a sharper but shorter escalation precedes a new normal settling in. We think both scenarios still carry significant costs, with the broader impact differing across the two pathways but creating volatilities nevertheless.

Given that May was largely an eventful month with the currency spiking to 350, a 100 bps CBSL rate hike, and market rates rising nearly 150 bps we believe all of this looks like an overshoot driven by sentiment, while the fundamental story, we feel, still holds enough firepower to correct these spike movements. Given the economic performance of the Sri Lankan economy over the few months and years fundamental strength remains the centerpiece of our view.

Factoring all of this we hold the current view that the present context reflects an accumulation of negative shocks, which we view as interruptions rather than structural reversals from Sri Lanka’s economic trajectory. That said, we do not rule out the possibility that risks remain, with significant knock-on effects worth watching — including further Iran War escalation with rapid intensity, Middle East supply destruction, and weather-related and geopolitical shocks that could leave a meaningful dent on the new fundamental trajectory.

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Disclaimer: Information collected/analyzed is from sources believed to be reliable or from the Central Bank/Government. Frontier Research Private Limited however does not warrant its completeness or accuracy. Opinions and estimates given constitute our judgment as of the date of the material and are subject to change without notice. The reports and presentations given are not intended as an offer or solicitation for the purchase or sale of any financial instrument. The reader must make their own independent decision regarding any securities or financial instruments mentioned herein. Securities or financial instruments mentioned may not be suitable to all investors. This communication including any attachments contained herein is governed and bound by the “Confidentiality and Disclaimer” detailed and available for your specific reference at our corporate website.

The latest update by the World Meteorological Organization (WMO) indicates an 80% likelihood of an El Niño event during June-August 2026 with over a 90% probability of it continuing until at least November this year. While this is not the first time the world faces an El Niño condition, the alarming feature is the intensity of it compared to the past and the possible implications it could enforce on the world economy that is already dealing with a lot currently.

What is El-Nino and how has it occurred in the past?

El Niño is a climatic phenomenon distinguished by intermittent increases in sea surface temperatures within the central and eastern equatorial Pacific Ocean. Its occurrences are sporadic, typically happening every two to seven years, and it possesses extensive consequences to worldwide weather patterns. When the sea surface temperatures in the eastern equatorial Pacific Ocean is relatively warmer compared to the central equatorial Pacific Ocean, these conditions are known as “El Niño” conditions. When the reverse is true, these are known as “La Niña” conditions.

Simply put, shifts in rainfall and temperature patterns across continents, raise the likelihood of drought in some regions and floods in others. Those meteorological shifts then cascade down to agriculture, energy, health and go all the way down to the social lives of people causing broader demand and supply disruptions that may alter the economic trajectory of countries.

The last El Niño, in 2023 to 2024 – which meteorologists said was strong, ⁠contributed to making 2024 the hottest year on record, said WMO Secretary-General Celeste Saulo. Predictions by the UN Agency at the point of writing this piece indicates the upcoming El-Nino phenomenon to be “at least moderate – and possibly strong”.

While each El Niño event is unique in terms of its evolution, spatial pattern and impacts, the broader perspective for the South Asian region signals below average monsoon rainfall and above average temperatures according to the South Asian Climate Outlook Forum.

How can it affect the current economic landscape?

Farmers, fishermen and small-scale producers often absorb the first blow. Be it floods or draught – depending on which part of the world one is at – severe disruptions to the harvest, spreading of pollutants and increased risks to cultivations may be common.

In the event of a worse-case scenario, commodity markets which are already facing steep ups and downs, can face further price volatility even amidst moderate disruptions – particularly across fertilizer, fuel and agriculture commodities. Supply disruptions due to lower yields may push farm costs up and reduce food supplies that could weigh in food inflation. Low rainfall could also impact energy generation and fuel prices may experience further spikes causing more stress on vulnerable economies – particularly those in dry regions and rely heavily on hydro. Consumer markets may also face some level of demand destruction especially in non-essential spending if energy prices bite into inflation and raise everyday cost of living which are already on the rise in many countries.

A combination of these costs could further dampen growth which is already revised down as a result of the most recent oil supply shock. Depending on how bad the situation gets, governments may also enact export controls, subsidies, rationing or emergency imports which could possibly distort markets and cause distress in the short term. Given the volatile and heavily uncertain nature of the current global economic context, a severe climate disruption of a large scale – as most expect – would be the last thing the economy would welcome.

What this means for Sri Lanka?

As we’ve repeated many times before, the structural change in Sri Lanka’s macroeconomic landscape has now put the economy in a better footing to deal with external shocks like this than in the deficit driven past. A good example of this is how the country remains resilient currently despite the effects of arguably the biggest oil shock it has faced. While strong Fiscal space and FX surpluses serve as strong buffers to shield the country from the costs of such events, it doesn’t mean short-term pains are out of the picture.

Yes, the government does possess better ability to amplify relief efforts and increase imports if disruptions happen but maintaining growth and stable price levels remains key within the country’s broader macroeconomic trajectory. The structural changes taking place in the country’s energy mix and inflation are also factors that could support therein, helping the country to better deal with a El-Nino condition.

What caused this rise? What has been the impact within US so far?

US inflation surged to its fastest pace in three years in April, as the ongoing US-Israel war on Iran continued to strain global energy markets and squeeze household finances. The Federal Reserve’s preferred inflation gauge, the Personal Consumption Expenditures (PCE) price index rose 3.8% year-on-year, up from 3.5% in March, according to the Bureau of Economic Analysis. On a monthly basis, PCE gained 0.4%, following a sharper 0.7% rise in March. The primary driver of this raise remains energy prices. The national average retail gasoline rose by 12.3% in April alone, with prices at present being at USD 4.42 per gallon, a 48% increase since hostilities began on 28^th of February. Food prices rose by 0.5%, which was the steepest monthly climb since November 2022, while housing and utility costs rose by 0.6%. Core PCE which excludes food and energy too saw an uptick rising 3.3% year-on-year, which signals that inflationary pressures are beginning to impact beyond the energy sector.

The impact of this is mostly felt by households. Real disposable income fell for a third consecutive month in April, consumer savings fell to 2.6% of disposable income; their lowest level since June 2022. First-quarter GDP growth was revised down to 1.6%. With tax refund season drawing to a close, economists warn that consumer spending, which accounts for over two-thirds of US economic activity, is likely to decelerate further. The timing of this data is crucial as the Federal Reserve intends to hold its first policy meeting under its new Chair Kevin Warsh on 16^th and 17^th of June 2026. The reality is that the Fed’s options are constrained. Raising interest rates could dampen demand but cannot resolve the ongoing supply disruption from the US-Iran war. Retaining the rates as is, would risk inflation expectations to become unstable. The minutes from the April policy meeting indicate that many officials are in favour of a rate hike despite the slowing economy and weakening consumer spending.

Markets now expect the benchmark rate to remain in the 3.50 - 3.75% range well into 2027, with JPMorgan Chase flagging the possibility of a rate hike rather than a cut by mid-2027. Long-term Treasury yields; already at their highest since 2007 suggest markets are pricing in prolonged uncertainty without waiting for the Fed to act. The burden of the above lands on Kevin Warsh as he is challenged to not only changing or retaining rates, but to ensure inflation targeting of the Fed be cohesive and reliable without causing further damage to the US economy.

What are the ripple effects of this outside of the US?

One of the key components that saw an immediate impact were commodities, specifically Gold; whose prices dropped on Thursday following the release of the US inflation data. However, the metal was momentarily declining for a third straight session given the scepticism of the US-Iran deal. While this isn’t a long-term impact to the commodity itself, the current trend seen in gold acts as a symbol of the confidence in capital markets within the world at large.

The global economy is not immune from PCE inflation data either. Experts note that price pressures have continued to compound following the COVID-19 pandemic, the PCE data can well exceed the 4% mark by May of this year in this current trend. A majorly impacted sector is food; planting seasons are disrupted by food shortages which is pushing nations affected to ration certain commodities and goods such as cooking oil. Oil-producing countries too are affected, in that many lack the ability to refine oil which means they are unable to leverage their own resources. The spillover effects from the war and resulting inflation can move into 2027 if this continues.

International institutions such as the IMF in their Spring Meeting 2026 has noted that the world economy is drifting from the best-case outcome as per their projections. Which means they expected global growth to be around 2-3% and inflation to be in the 4-6% range. However, not all is bleak. Even if the conflict were to conclude this week, the shortage in oil is said to be comparable to the 1970s in terms of how much oil has been withdrawn from the market, but the world is not as dependent on oil as it was in the 1970s and central banks at present have built robust inflation-targeting frameworks. All of these factors help in maintaining expectations a lot more cohesively than decades ago. Despite the challenges, what is suggestive from all expert opinions is that the world economic systems are better geared to withstand the absolute worst outcomes in comparison to the past. While a shock to different sectors will take place, the ability to bounce back is stronger now.

Can Sri Lanka be impacted from this?

The impact from US’s PCE data is two sided. On the negative end, with the latest domestic CCPI inflation data of Sri Lanka coupled with PCE inflation data of the US, the impact is already seen in oil prices and is impacting many industries’ costs of production. This trend can last for some time provided the war continues and no resolution is reached. However, there are two pathways that counterbalances or softens the blow.

One aspect is the IMF’s Extended Facility Fund which is expected to disburse USD 695 Mn to Sri Lanka. The basis for this disbursement is the strong performance of Sri Lanka’s economy where the country met all end-December 2025 targets which resulted in a strong fiscal front. Overall, most of the structural benchmarks were met or completed with a short delay. However, it was flagged that the ongoing war coupled with the aftermath of the cyclone Ditwah can dampen the outlook to an extent, but the progress so far suggests a never before seen resilience in the economy at large on a macro-level. At the same time, the disbursement alone helps prevent adverse outcomes on the currency as well.

The second pathway is the structural changes in energy dependencies in the economy. Many households and some industries are moving towards renewable energy such as solar power. While the economy as a whole is still very much oil dependent, the trend from a household level does build the case for some cushioning on energy moving forward. If this trend grows and expands with greater investments by the public and private sector, it could improve the resilience of the energy sector.

Drivers of the deviations and what has been done so far

Interestingly, even though recent global events have been impactful, the extent of the volatility of each of these Asian currencies seems to be determined equally by domestic factors and policies in each country. For instance, the Indonesian Rupiah fell and reached a record low of 17,658 against the US Dollar this week, amid pre-existing pressure driven by growing investor concerns over Indonesia’s fiscal position and governance framework. The Indian rupee has emerged as the worst-performing currency in emerging Asia, declining by over 6% year-to-date, while foreign investors have withdrawn more than $20 billion from Indian equities since the onset of the war, with cumulative outflows already surpassing last year’s record levels. The Thai Baht has also underperformed year-to-date, declining by 2.72%, as energy price shocks and mounting fiscal concerns have further intensified downward pressure on the currency. These economies are especially vulnerable as oil-importing nations facing simultaneous capital outflows, with investors reallocating funds elsewhere, while shifting expectations of a hike in U.S. interest rates this year, have added further downward pressure. By contrast, bullish sentiments have strengthened towards the Singapore dollar and the Malaysian ringgit, reflecting the Singapore central bank’s safe-haven status and Malaysia’s role as a net energy exporter.

As currencies fall to record lows alongside mounting pressure to drive interest rates higher, Asian policymakers are taking measures to support their economies amid the global energy supply shock. Governments face a difficult policy dilemma, as efforts to preserve economic growth are complicated by weakening currencies that risk undermining confidence and fuelling inflation, while potential raises in interest rates to support currencies could further burden consumers and constrain economic growth amid the ongoing fuel shock. Indonesia announced a 50-basis-point interest rate increase to support the rupiah, while also taking control of commodity exports to ensure export proceeds remain onshore and are transacted in the local currency. India has urged citizens to reduce overseas travel and limit gold purchases in an effort to protect the rupee from further depreciation.The Philippines’ central bank has already implemented interest rate increases, while rising inflation has fuelled speculation that an unscheduled rate hike could occur ahead of the next policy meeting scheduled in a month’s time. However, pressure remains persistent, with several investment banks advising clients to sell weaker Asian currencies in favour of stronger regional counterparts.

What could this mean for the global economy and trade?

Due to the present uncertainty around the future of the scale of geopolitical tensions across the globe, it becomes challenging to capture the extent of the impact and the duration to which these currencies might continue to weaken. Nevertheless, it might be reasonable to expect tight regulations, to curb imports arriving into these Asian countries whose currencies are declining in value, while their governments may simultaneously implement various policies to further incentivise exporters and FDI inflows. For instance, Indian Prime Minster Modi has already visited various European states with the aim of boosting trade and investment flows, while Union Commerce Minister Piyush Goyal has outlined an ambitious plan of achieving $1 trillion in exports this year, while also advocating for stronger import substitution.

In addition, market pressures have been particularly severe in countries, such as Indonesia, which moved to centralise commodity export management, thus heightening fears among investors of greater state intervention in the market. S&P Global Ratings has warned that such policies could weaken export performance, reduce government revenues, and place additional pressure on the balance of payments position.

How will Sri Lanka be impacted from all this?

The Sri Lankan Rupee has also been equally unstable over the past week, after depreciating and then appreciating at a considerable pace. However, neighbouring countries too have been encountering similar movements, which implies the strong impact of the prevalent energy crisis and global uncertainty, which is essentially an external hit on these economies. Even though this makes it challenging to determine the impact in general on Sri Lanka’s external sector in the short term, the existing external buffers both in terms of the current account surplus in the Balance of Payment and the Net Foreign Assets of the banking system should help the country weather some of these shocks that comes it way.

When Donald Trump re-entered the White House in January 2025, he arrived with the tariff as his preferred instrument of economic diplomacy. The so-called “Liberation Day” levies of April 2025 pushed duties on Chinese goods past 140%. China retaliated swiftly, becoming the first major economy to match the escalation and imposing 125% counter-tariffs of its own. Throughout the rest of 2025 was something similar to a stalemate as Beijing used its control over rare earth minerals as leverage to protect its markets. China mines more than 60 percent of the world’s rare earth materials and processes roughly 85 percent of global output, which includes but are not limited to, the heavy rare earths embedded in F-35 fighter jets, electric vehicle motors, and also for AI data centre hardware. When Beijing introduced licensing requirements for seven heavy rare earths in retaliation for the Liberation Day tariffs, rare earth magnet exports to the United States reportedly fell 93 percent year-on-year in May 2025.

A partial détente was reached in Busan, South Korea, on the sidelines of APEC in October 2025 where both sides agreed to a one-year trade truce. Under that agreement, China deferred its rare earth export controls for a year and agreed to resume purchases of American soybeans. America, in turn, reduced tariffs by ten percentage points. The October truce stabilized markets sufficiently to allow for a more formal engagement, leading ultimately to Trump’s state visit to Beijing in May 2026.

What happened during the summit?

Both governments confirm the establishment of a Trade Council and an Investment Council, frameworks designed to institutionalize the kind of structured dialogue that has, historically, been absent in US-China relations. A reciprocal tariff-reduction framework covering approximately $30 billion in goods appears to be under active negotiation, with the United States likely targeting energy and agricultural exports and China seeking reductions on certain consumer goods.

The technology angle of this meeting may potentially be more consequential than the agricultural deals. Jensen Huang of Nvidia joined Trump’s delegation to address stalled discussions over American H200 chip sales to China. Shortly after Trump’s bilateral meeting with Xi, Reuters reported that Washington had cleared H200 sales to several major Chinese technology firms, which if confirmed and sustained could shift competitive dynamics in artificial intelligence. Xi’s response, as relayed by Trump on Air Force One, was that China preferred to develop its own chips which signals China’s continued industrial ambition and unwillingness to part from using this as a negotiating tool. On rare earths, analysts at Chatham House suggest that any deal is likely to be a “managed pause” rather than a structural resolution as Beijing has little incentive to permanently get rid of a licensing system that gives it leverage.

On the political front, the two leaders agreed to describe their relationship as a “constructive and strategically stable US-China relationship,” which Beijing says should provide strategic guidance for at least the next three years and likely beyond. Some analysts observed that this looked rather like Beijing “trying to lock in a truce on terms that were favorable to it”. Others are divided on whether this serves American interests, but what seems difficult to dispute is that Xi is operating on the longer strategic timeline that authoritarian systems enjoy, while his counterpart needs to show results before November’s midterm elections.

What does this mean for Sri Lanka?

If the Beijing summit produces a sustained reduction in US-China trade tensions, the effects for Sri Lanka still remain unclear. Looking at this from a more sectoral level perspective, if the $30 billion dollar tariff reduction framework includes Chinese apparel questions do arise on whether this will have a negative impact on Sri Lanka’s apparel sector. Sri Lanka produces technically complex garments in categories such as lingerie, activewear, and performance wear that do not compete directly with the high-volume, low-cost commodity output that predominantly makes up China’s manufacturing apparel output. This offers a degree of insulation since those who source from Sri Lanka are, by and large, not the same buyers who would pivot to China.

What caused this rebound? And how did the PMI move regionally?

The Composite PMI is the broadest measure of global economic activity, combining both manufacturing and services sectors into a single index. In April 2026, the Composite PMI rose from 51.0 to 51.8, recovering from March’s sharp decline. A PMI reading above 50 indicates expansion in business activity relative to the prior month whilst below 50 signals contraction. There were several key factors driving this raise, one of which is the effects from the ongoing Middle East conflict and subsequent closure of the Strait of Hormuz This resulted in rising input costs for manufacturers; the fastest raise since June 2022, whilst supplier delays worsened to the levels of August 2022. In the meantime, stockpiling was another factor contributing. With overall supply disruptions and a U.S. tariff deadline approaching in July, buyers were pushed to build inventory, resulting in inflated order volumes. This trend is not unique to this conflict; it was notably seen during the Russia-Ukraine conflict as well where stockpiling and cautionary purchasing drove up the PMI early 2022 and faded out mid-2022. Following this, global PMI index began reflecting the true impact of the war causing a worldwide downturn of the PMI.

In addition to the above, manufacturing production grew for the ninth consecutive month, hitting a near five-year high, with growth across consumer, intermediate and investment goods. Of the 32 countries surveyed, 19 recorded growth. This was reflected in a high Manufacturing PMI value of 52.6 in April from 51.3 in March. This factor was further catalysed by overall regional growth in the largest economies. The U.S. was the clearest outperformer with the Manufacturing PMI climbing 2.2 points to 54.5; a four-year high. The cause for the uptick in US reflects the broader underlying factor of stockpiling, whereas other sectors remained fairly weak due to the ongoing war, impacting overall consumer behaviour. The Eurozone Manufacturing PMI saw an eight month high of 52.2 whilst the composite index fell to 47.4. Manufacturing picked up due to influx of new orders with front-loaded buying driving bulk purchasing to its highest since mid-2022. The slump in services is noteworthy which was coupled with contracting business confidence. China saw an uptick where the Manufacturing PMI rose to 50.3 supported by similar factors as seen in the Eurozone. Growth was supported by continued expansion in output and new orders, while export orders rose above 50 for the first time in two years. China’s Services PMI rose to 52.6 in April, up from 52.1 in March. This was supported by domestic demand given that new export businesses declined for the second consecutive month.

What is the implication of this?

While the April PMI headline number is positive, the underlying factor for the rise carries significant macroeconomic consequences. The stockpile-driven demand surge is widely considered unsustainable and likely to reverse in Q3 2026 as inventory buffers are filled and the artificial demand impulse fades. Inflation will show more transparent outcomes of this. The World Bank projects energy prices to rise 24% in 2026, with Brent crude averaging USD 86 per barrel versus USD 69 last year. As a result, fertiliser prices are rising and has gone up by 31% so far with urea specifically increasing much more. This will impact the agriculture sector and food production thereafter with rising input costs and overall driving up food costs. In developing economies, inflation is now forecast at 5.1% for 2026. The inflation trajectory constrains policymakers, particularly central banks. Already the Fed, ECB and Bank of Japan are dealing with supply-induced inflation, which means they face a risky trade should they raise interest rates. There can be a risk of borrowing costs rising globally which further depletes economic growth. There’s no doubt that the Hormuz closure has made global shipping significantly more expensive, for instance insurance premiums have risen with the added costs due to rerouting.

One thing that can change the current trajectory is the strait of Hormuz reopening which can drive down energy and freight costs and the turnaround for the global PMI can be driven by broad based improvements as opposed to factors such as stockpiling. Any further escalation or damage to energy infrastructure could push Brent crude further up and cause even higher inflation around the world, followed by rising input costs. However, the mere fact that regionally – in this case US, China, EU doing well indicates a counterbalancing mechanism even if stockpiling continues or is taken out of the picture which can anchor the global economy towards a positive direction in certain ways. Beyond the conflict itself, two trade policy events warrant close attention. The U.S. tariff restructuring is due on the 24^th of July 2026, where country-specific tariffs are chosen over a blanket imposition. This could meaningfully restructure global trade flows depending on which economies face higher or lower rates. However, early-May there was a setback where the US Court of International Trade ruled that the 10% universal import tariff is “unlawful” and “unauthorized by law,”. This ruling blocks collection from specific plaintiffs, but the tariffs generally remain in effect until the July deadline expiration or further court action. Finally, the China-U.S. summit this week carries significant weight for Asia’s export-driven economies. Any agreement that clarifies the tariff outlook or eases trade tensions could provide a meaningful demand boost to regional manufacturing, while a breakdown in talks could further dampen uncertainty.

How will Sri Lanka be impacted from this?

While April PMI numbers is yet to be released by CBSL, March PMI data indicated an overall uptick where Manufacturing PMI was at 66.7 and services PMI at 59.4. Despite external challenges, this does point to a strong macroeconomic base and some sectoral strength.

The ability to sustain this momentum has gotten complicated as inflation for April jumped to 5.4% from 2.2% in March, mainly driven by an increase in energy cost. Given that domestic inflation was driven largely by energy prices rising causing transport costs to rise, the momentum in manufacturing PMI could slow down.

However, one thing that anchors Sri Lanka and prevents any long-lasting adverse damage is the macroeconomic conditions that have prevailed until now. Nonetheless, if the conflict worsens and energy costs goes up further this can start challenging the strong buffers that are in place.

The 2026 April Monthly report – The Lion Resilient – focuses on Sri Lanka’s macroeconomic landscape on the backdrop of multiple shocks seen during the recent past with a special focus on the Iran war and its implications on both Sri Lanka’s fiscal and external fronts.

So far with regards to the war in the Gulf, while there have been immediate market reactions, we continue to see the macroeconomic fundamentals remaining strong enough for us to feel that the Sri Lankan economy will remain quite resilient. While the shock will unquestioningly have an impact, we currently see it only as a temporary interruption to the Sri Lankan story.

Even as some of the costs of the war accumulate across the year, we think that the Sri Lankan economy’s new economic structures will keep it resilient in almost all pathways possible. We see this coming both from counterweights that automatically reduce the external pressure, but also from new mechanisms that prevent a spiraling of the situation as we would have seen in Sri Lanka’s twin-deficit past.

For those interested in the key data points on Sri Lanka’s macroeconomic developments, the final section provides the latest on the trade balance, current account balance, reserves, exchange rate, interest rates, and inflation – including our forecast on CCPI inflation up to end-2027. We also provide a comprehensive outlook on our Views on the Fiscal and External indicators in our Focus for the month.

Our clients would have received the report to their emails and is accessible on our Athena reports platform since the 30th of April, 2026. If you still haven’t had a chance to read through click here! If not, please get in touch with us for a trial subscription to our reports (clientconnect@frontiergroup.info).

Disclaimer: Information collected/analyzed is from sources believed to be reliable or from the Central Bank/Government. Frontier Research Private Limited however does not warrant its completeness or accuracy. Opinions and estimates given constitute our judgment as of the date of the material and are subject to change without notice. The reports and presentations given are not intended as an offer or solicitation for the purchase or sale of any financial instrument. The reader must make their own independent decision regarding any securities or financial instruments mentioned herein. Securities or financial instruments mentioned may not be suitable to all investors. This communication including any attachments contained herein is governed and bound by the “Confidentiality and Disclaimer” detailed and available for your specific reference at our corporate website.

Although the spectre of the Iran War looms large, the fundamental story of the Sri Lankan economy looks to stay strong. In our focus for this month, we take a specific look at the fiscal and external performance of the country and how it ties into forecasted performance in the context of the Iran War.

While the Iran War adds clear uncertainty, and this itself reduces the extent of some of the fiscal and external strength, we think that Sri Lanka’s fiscal and external strength is likely to persist and continue their recent overperformance. We see the strength in the domestic economy acting as a counterweight to insulate itself from most of the costs of disruption and uncertainty that continues to be the case globally. As Sri Lanka’s long-running twin deficits were replaced by fairly consistent twin-surpluses since the crisis, we how costs of a disruption accumulate or absorb are functionally different to the past.

However, the unpredictability of the duration and direction of the conflict raises the uncertainty quotient globally. To account for a precarious geopolitical backdrop, we have widened some of our forecast ranges to reflect this wider probability space.

Our clients would have already received a detailed report to their emails on this; alongside the numbers we associate with each of these varied scenarios. The full report has also been accessible on our Athena reports platform since the 30^th of April 2026. If you still haven’t had a chance to read through it, click here! If you are yet to be a subscriber, please do get in touch with us for a trial subscription to our reports at clientconnect@frontiergroup.info.

Disclaimer: Information collected/analyzed is from sources believed to be reliable or from the Central Bank/Government. Frontier Research Private Limited however does not warrant its completeness or accuracy. Opinions and estimates given constitute our judgment as of the date of the material and are subject to change without notice. The reports and presentations given are not intended as an offer or solicitation for the purchase or sale of any financial instrument. The reader must make their own independent decision regarding any securities or financial instruments mentioned herein. Securities or financial instruments mentioned may not be suitable to all investors. This communication including any attachments contained herein is governed and bound by the “Confidentiality and Disclaimer” detailed and available for your specific reference at our corporate website.

Oil price hits a wartime high last week

The global benchmark oil prices, Brent crude rose above $120 a barrel last Wednesday, briefly soaring to a wartime high of $126.41, its highest since 2022. This was after Brent crude dropping to $90 a barrel on the 17^th of April, after a ceasefire between Israel and Lebanon was announced where the US claimed it would pause all attacks on Iran. Despite this, oil prices continued to average at a much higher rate than the pre-conflict prices and nearly doubled since the start of the year when tensions between Washington and Tehran began escalating.

Despite the ceasefire, oil prices continued to rise over the last 2 weeks with the US continuing its blockade in the Strait of Hormuz and President Trump warning that the blockade could last months while peace talks continue to remain uncertain and stalled. US officials hope the blockade will force Iran to cap its oil wells and shutter production once its oil facilities, such as Kharg Island, have filled to the brim.

While prices have since retreated down to $100-110 ranges, analysts are warning than an extended interruption to oil into the second half of the year could tip the global economy into recession with countries already facing heightened inflationary pressure, fuel shortages, weakened household consumption and slower growth. Vandana Hari, founder of Vanda Insights, said that oil prices have “nowhere to go but up”, until the permanent reopening of the strait comes into view. Janiv Shah, vice president of oil markets at Rystad Energy, said any further military escalation could trigger even steeper price gains.

UAE leaves OPEC in a blow to oil cartel during war

Meanwhile, on Tuesday, the United Arab Emirates announced that it would be leaving the Organization of Petroleum Exporting Countries (OPEC) and its sister organization, OPEC+ from the 1^st of May reflecting the country’s “long-term strategic and economic vision and evolving energy profile”. With UAE, a member that produces nearly 4.8 million barrels a day and nearly 4% of global oil supply, leaving the OPEC coalition could weaken the oil cartel at a time where Gulf producers have already been struggling to export through the Strait of Hormuz.

While the UAE Energy Minister Suhail Mohamed al-Mazrouei said that the decision was taken as a policy decision “after a careful look at current and future policies related to production levels”, it adds to the OPEC’s declining influence over the oil market. With the OPEC’s third largest oil exporter leaving the organization taking with it, 15% of its capacity, OPEC’s declining share of oil could mean a more open oil market. It also means that the country will now be free to increase its oil output in the long-term at its own discretion.

OPEC+ announces 188,000 barrels-per-day output increase in first meeting without UAE

On Sunday, OPEC+ announced that it would increase its daily output by 188,000 barrels a day to send a signal that it was conducting business as usual after UAE’s announcement. This decision was largely symbolic with the ongoing oil crisis due to the supply that is choked off by the war. This was the second announced supply increase in the last 2 months following a previous decision in early April to raise oil production quota by 206,000 barrels a day.

This announcement could cushion the oil crisis to a certain extent and if supply is increased, could possibly lower the highly elevated global oil price from its current level. Oil prices also fell on Friday by around 3%, following an updated peace proposal from Iran that was sent to Pakistan raising hopes of a possible peace settlement with the US.

What this means for Sri Lanka?

Sri Lanka has already been experiencing the brunt of the Brent prices since March, with a relatively higher oil bill, widening trade deficit and elevated inflationary pressure. This was visible through the declining Current Account Surplus due to a 122% YoY increase in its trade deficit for 1Q26. In March alone, Imports increased 30.3% YoY to $2.13 Bn with fuel imports being its biggest driver surging 74.7% in March due to higher global prices. April also experienced its highest inflation since February of 2024 with a 5.4% YoY inflation largely due to price increase in Petrol, Diesel as well as Gas prices in March and April.

Financial Times is warning that Asian economies could experience further inflation pressure if the ongoing conflict continues for a few more months while ADB has sharply downgraded Asian and Pacific regional growth outlook as ME conflict disruptions deepens further. However, there is a renewed sense of hope on some level of peace negotiation with Iran’s Foreign Ministry stating that it is reviewing US’s response to its ceasefire proposal and it will issue a reply after completing its assessment.

While conversations around this were already in the picture even before the war, it is fair to assume that the war might speed up this process as growth outlooks are revisited and revisions are made across the world. Analysts have already accounted for a global slowdown and revised their growth forecasts down with some even projecting a possible recession depending on how long the war progresses. However, one thing that runs deeper than the topline numbers is how the world may perceive growth in itself following the consequences of the current war as well as the structural changes that it may amplify. Traditional models that drove the global economy over the past 30+ years or so may change to fit a world with severe debt and high geopolitical fragmentation. Keeping track of such adjustments that could possibly re-define global capital and trade flows, and adapting accordingly could be the x-factor that separate the winners and losers in this newly emerging global order.

What are some prominent structural changes that define the new world?

The Artificial Intelligence (AI) boom is the most obvious one here. In the latter half of the 20th century, some of the brightest minds in the United States and the Soviet Union were focused on the race to develop nuclear weapons. Today, it’s a different kind of competition - this time with China - centered on achieving technological dominance, particularly in AI. Similar to these two giants, other developed nations and emerging economies are also aligning themselves to this age of AI with massive investments in technological infrastructure. Data centres emerged as a major force shaping global investment in 2025 driven by surging demand for AI infrastructure and digital networks. Similar to countries that attract such investments, more emerging economies may also look forward to ride this wave and place themselves within these supply chains that may re-define domestic policies within countries.

Defence spending is another prominent feature in this newly emerging order. As competition intensifies and more inter-state conflicts are expected in future, countries are heavily increasing their share of expenditure allocated for defence. 2025 turned out to be the 11^th consecutive year of rising global military expenses with defence spending as a % of GDP reaching 2.9% - the highest since 2009. This trend may present a series of opportunities particularly to the players within those supply chains that provide and assist the production or exchange of advanced military technologies and materials. This could also present a significant challenge to policymakers by restricting other fundamental investments geared towards areas such as education and healthcare that drives more longer-term growth and productivity.

Conflicts in the Gulf have consistently proven that being entirely dependent on Middle-eastern fuel and energy pose a significant threat to countries. Hence, achieving energy independence have made its way to the priority list of world leaders that could define domestic strategies in the years to come. The EU for instance is currently accelerating its efforts in this direction and setting the trend for the rest of the world. Following the heavy disruption faced due to the current crisis, the commission launched its latest initiative - AccelerateEU - the toolbox to bring immediate relief to European households and industries, especially the most vulnerable ones, while putting Europe on a steady pathway to energy independence. Climate risks and the transition towards green technologies compliments this further as growth and development of countries in this new age will be more closely linked to developing more sustainable energy sources.

What are some downside risks prevailing in this new context?

While the above-mentioned trends may provide policymakers, investors and businesses plenty of room for growth, it’s also important to note that it’s happening on the backdrop a global environment that is drowning in unprecedented levels of debt. The IMF says global public debt could exceed 100% of GDP by the end of the decade. Governments around the world now owe nearly $100 trillion in public debt. That’s almost double what they owed just a decade ago. While mature markets – particularly due to massive investments in AI account for most of this growing levels of debt, emerging markets have also reached a new high of more than $115 trillion, with Brazil, Russia, South Korea, Poland, and Mexico following China in debt accumulation. While increasing government borrowing serves as the main reason behind debt accumulation, the ability for authorities to operate in such tight fiscal conditions in the long run while maintaining low interest rates is the common question monetary authorities face across the world. Even though an immediate fallout is not within the cards as of yet, this approach of running large deficits and financing them using debt raises concerns around the long-term sustainability of public budgets across the world.

Another not-so immediate but certainly an area that may pose a new kind of challenge is the demographic shift that happening across labour and consumer markets across the world. This is also an area that indicates divergent implications across regions that could be increasingly visible with time. For instance, according to the United Nations, while Central Asia continues to experience youth-driven population growth, with a rising share of working-age people offering significant economic potential, many European countries are grappling with shrinking and ageing workforces, as fertility rates are low and populations become older.  A number of countries – particularly in the EU and East Asia - are already having to deal with increasingly ageing and shrinking population growth which have caused disruptions in domestic markets and require the need for carefully devised policies to face a new demographic reality. Labour markets in particular pose a risk of skill mismatch especially within traditional sectors as technological innovations and AI boost amplifies. Navigating such changes remains key for both governments and businesses in order to maintain the rapidly evolving consumer and labour markets of economies.

What could this mean for Sri Lanka?

Outside of dealing with the short-term implications of the current war, the changing economic landscape provides Sri Lanka with a mix of growth opportunities and challenges. The transition of the country from a deficit to a surplus economy itself places the country on a strong footing. As Sri Lanka continues on its recovery pathway while easing off its debt burden, in a context of rising global debt, it is highly likely that a possible credit rating upgrade will allow the country to regain access to global capital markets. Maintaining fiscal discipline on the other hand will allow the country to efficiently allocate resources towards social development and reform efforts. As reforms come into play and the private sector further expands its involvement in domestic economic expansion, the ability for the country to plug in to these newly emerging AI supply chains wouldn’t be a long shot. It also presents the country the opportunity to attract investments for the development of infrastructure and labour particularly for those outside of the traditional sectors. The key remains in how proactive policymakers are when it comes to accelerating reform efforts while maintaining broader economic recovery and how invested the private sector is to expand their game within a structurally different Sri Lankan economy in the midst of a rapidly evolving global landscape.

What drives the growth and what constrains it?

The recovery from slower growth in the second half of 2025 was propelled by the manufacturing sector, although the world’s second-largest economy continues to face pressure from declining property investment. Industrial production increased by 6.1%, with high-tech manufacturing standing out as a strong performer, growing by 12.5%. Manufacturing of products such as semiconductors, industrial robots, lithium batteries, and 3D printers performed particularly strongly, recording double-digit growth between 24% and 54%. Demand for manufactured goods was boosted by a 14.1% increase in exports during the first three months of 2026, according to earlier released data. In addition, fixed asset investment, which had contracted in the second half of 2025, increased by 1.7% in the first quarter.

However, China’s consumer services industry has been facing difficulties, with restaurants shutting down across the country and those that remain open often having noticeably empty dining areas. A prolonged and sharp decline in apartment prices has reduced Chinese household wealth, leading many consumers to rein in spending. Residential construction has slowed significantly over the past four years, but apartment sales have fallen at an even quicker pace, resulting in a rising surplus of unsold properties and making potential buyers hesitant to invest their savings in real estate. Meanwhile, retail sales grew by only 2.4% year-on-year in the first quarter and just 1.7% in March, falling well short of most economists’ expectations. Furthermore, car sales dropped by 17% over the quarter after the government reduced subsidies that had previously fuelled a surge in demand last year. Exports have supported the Chinese economy through much of its housing downturn since 2021. However, this time they were unable to offset wider weakness, following a sharp increase in China’s largest import category—computer chips.

What could risk China’s economic blossom moving forward?

China opened the year with stronger-than-expected growth, but analysts say this does not yet indicate resilience to the economic impact of the Iran war, which is clouding the global outlook and may still raise costs and weaken demand for the world’s second-largest economy. External demand helped sustain growth in the first quarter. However, this dependence also raises questions about how long it can last. Meanwhile, China’s factory-gate prices turned positive last month for the first time in more than three years, as surging commodity costs particularly oil—began to impact the country’s vast industrial sector. In recent years, major Chinese industries have been affected by excess capacity, leading to intense price competition and sustained deflationary pressure across the economy. According to data from the National Bureau of Statistics (NBS), the producer price index (PPI), which measures factory-gate inflation, rose 0.5% year-on-year, returning to positive territory for the first time since September 2022. Chinese policymakers have long sought to end deflation as they work to revive an economy burdened by oversupply and weak consumer demand. However, analysts caution that this “cost-push inflation,” driven by rising input costs rather than stronger demand, is not the ideal form of recovery. Instead, higher production costs passed on to already cautious consumers could further weigh on the economy by reducing household disposable income and dampening spending. Some economists caution that a prolonged Middle East conflict could drive up costs and squeeze producer profits, while also weakening consumer demand including from abroad, as rising prices reduce overall spending power.

China has traditionally depended on infrastructure development such as roads, bridges, ports, and other large-scale projects to stimulate its slowing economy. However, increasing debt levels, particularly among local and provincial authorities, are making this approach more difficult to maintain. Weak domestic demand has prompted Chinese firms to look overseas for growth. Exports rose in the first three months of this year at their fastest quarterly pace in over four years, driven mainly by electric vehicle and lithium battery shipments. Economists say these overseas sales have helped keep factories operating at high capacity across the country. However, the durability of this export strength remains uncertain. Tariffs and higher raw material costs linked to the Iran conflict appeared to weigh on the Chinese economy in March. Although China is relatively well positioned compared to other major economies to withstand disruptions to oil and gas supplies thanks to large fossil fuel reserves and its leadership in renewables, recent trade data points to unexpected changes that significantly narrowed its trade surplus. A key shift has been a sharp increase in semiconductor imports, despite a a weak Renminbi, as China rapidly expands data centre infrastructure to support artificial intelligence development. At the same time, exports of toys and footwear, once strong sectors—declined as rising plastic costs from the Middle East conflict squeezed manufacturers.

How will Sri Lanka be impacted from this?

As a key trading partner, Sri Lanka is likely to feel both direct and indirect effects from these developments in China. Slower and uneven Chinese growth could weaken demand for Sri Lankan exports such as tea, rubber, apparel inputs, and other commodities, while reduced Chinese outbound investment may delay infrastructure or development projects linked to Sri Lanka. The growing reluctance to spend amongst Chinese households, amid global uncertainties can also have an impact on Sri Lanka’s tourism sector.

At the same time, if Chinese manufacturers face higher costs and weaker global demand associated with the conflict in the Middle East, competition in export markets could intensify, placing pressure on Sri Lankan producers. Rising energy prices caused by Middle East tensions would also be significant for Sri Lanka, as a net fuel importer, increasing import costs, inflationary pressures, and pressure on the trade balance.

How will this change Sri Lanka’s macro-trajectory?

In January 2026, we spoke about Sri Lanka’s fiscal overperformance and external surpluses that would help reserve build up and put the country in a much better footing to absorb any shocks coming its way. Since then, the fundamental macroeconomic story has only gotten stronger outside the war with key domestic macro indicators showing continued positive momentum at the start of the year.

However, given the current situation in the middle east and its effects both on the global and domestic end, we do think there could be contained changes to our previous baseline.

The impacts of the Iran War will be large but with many counterweights as well

The obvious message is that an oil shock is negative onto Sri Lanka - as would a global military situation. Alongside oil, we take a closer look at other areas such as remittances, tourism, local and global demand conditions that could possibly take a hit while we also explore some of the ‘counterweights’ that tied to the current context which can go unnoticed since much of the focus is directed towards the clear negatives. It is really how these factors play against each other that will affect the way the war’s impacts play out onto Sri Lanka.

Three main scenarios amidst the fog of war

With all this uncertainty, we’ve gone through multiple scenarios on top of scenarios - but ultimately ended up on 3 key scenarios – as outlined in our Focus here.

What will the combined impact onto Sri Lanka be?

One way to understand this situation is through the lens of “The new Sri Lanka figuring out how a global conflict affects it”. Given the structurally different macroeconomic setting that Sri Lanka is right now, how domestic economic factors would evolve this time can be VERY different to how they did in the past - and that’s part of why we only think 80% of scenarios are covered through our thinking. Additionally, we recognize that there are other knock-on effects that can complicate this situation – stemming both from the local AND global front – that can take us beyond our 3-scenario expectations.

Right now, while we have put our views into these three scenarios, the developments over the next few weeks can change this. By the end of April, we think there will be enough clarity to rule out at least one of the three scenarios as a result, and we hope to be able to give clearer views at that point.

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Our clients would have already received a detailed report to their emails on this, alongside the numbers we associate with each of these varied scenarios. The full report has also been accessible on our Athena reports platform since the 31st of March, 2026. If you still haven’t had a chance to read through it, click here! If you are yet to be a subscriber, please do get in touch with us for a trial subscription to our reports at clientconnect@frontiergroup.info.

Disclaimer: Information collected/analyzed is from sources believed to be reliable or from the Central Bank/Government. Frontier Research Private Limited however does not warrant its completeness or accuracy. Opinions and estimates given constitute our judgment as of the date of the material and are subject to change without notice. The reports and presentations given are not intended as an offer or solicitation for the purchase or sale of any financial instrument. The reader must make their own independent decision regarding any securities or financial instruments mentioned herein. Securities or financial instruments mentioned may not be suitable to all investors. This communication including any attachments contained herein is governed and bound by the “Confidentiality and Disclaimer” detailed and available for your specific reference at our corporate website.

Right now, Frontier is working with three scenarios.

1. A Shorter War – This is a scenario where we envision de-escalation within less than a quarter. We think there have been historical occasions where conflicts in the Gulf region have seen high levels of escalation, only to find resolution after some form of a ceasefire. We think this remains a plausible path from here.

2. The Longer War – This is a scenario we think resembles the ongoing situation in Palestine and Lebanon, where conflicts persist without a clear or decisive resolution. Within a scenario like this, hostilities could drag on for an extended period, keeping pressure across global markets and supply chains elevated for much longer than most would anticipate.

3. The Sharper War – This is a scenario where significantly more parties become directly involved, resulting in a major, large-scale, all-out war. However, unlike the Longer War, this scenario may not necessarily persist over an extended period — the sheer intensity of the conflict could, in fact, accelerate its conclusion.

Across these three scenarios, we think the overall impact on both the global economy and the local economy could be broadly different in nature, magnitude, and duration.

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Our clients would have already received a detailed report to their emails on this, alongside the numbers we associate with each of these varied scenarios. The full report has also been accessible on our Athena reports platform since the 31st of March, 2026. If you still haven’t had a chance to read through it, click here! If you are yet to be a subscriber, please do get in touch with us for a trial subscription to our reports at clientconnect@frontiergroup.info.

Disclaimer: Information collected/analyzed is from sources believed to be reliable or from the Central Bank/Government. Frontier Research Private Limited however does not warrant its completeness or accuracy. Opinions and estimates given constitute our judgment as of the date of the material and are subject to change without notice. The reports and presentations given are not intended as an offer or solicitation for the purchase or sale of any financial instrument. The reader must make their own independent decision regarding any securities or financial instruments mentioned herein. Securities or financial instruments mentioned may not be suitable to all investors. This communication including any attachments contained herein is governed and bound by the “Confidentiality and Disclaimer” detailed and available for your specific reference at our corporate website.

What is at stake to completely reopen the Strait of Hormuz?

Since the February 28^th military attacks on Iran until the Strait of Hormuz (SOH) has been largely closed or severely restricted. This undoubtedly is impacting oil mobilisation therein affecting the supply. Monopolizing on the ultimatums US gives outs coupled with the importance of SOH, Iran has maintained selective, permission-based transit regime since early March. Essentially ships are approved to pass through the SOH on a case-by-case basis after communicating with extensive detail on the vessel ownership to the IRGC in advance. This unequivocally converts the SOH into a geopolitical tool of Iran who will continue to monopolize on the current geopolitical situation, exacerbated by Trump’s ultimatums and threats, while providing leverage to Iran’s allies such as China, Pakistan, India or Russia. Recently, Philippines secured access through the SOH. The ongoing trend shows that any country that is willing to side with Iran and show allegiance is likely to benefit by being given access through SOH, thereby securing oil supply and reducing impact on their local economy. It is likely that Iran continues on the status quo persists and takes control over who gets what and when relating to oil; more specifically isolating western-aligned shipping and rewarding allies.

This does begs the question as to how long Iran can keep up with the threats of US without obliterating their economy. Afterall US has a greater air force capacity than Iran, whose air force equipment are relatively less developed. Iran’s greatest strength regardless of infrastructure shortcoming li in their unconventional warfare methods such as cheap drones and sea mines and in part their geography. Both of these factors taken together makes it harder for the US or others to acquire SOH militarily. This, however, is not perpetual. As of now the US has destroyed most of the Iranian vessels, therefore the ability to enforce a blockade is shrinking due to depletion of physical assets. The next is the economic factor, which is the revenue streams to Iran which is already constrained due to sanctions. If oil exports of Iran (90% of total oil exports) through the Kharg Island is blocked, that would mean a recession level impact on the Iranian economy. All in all, the re-opening of the SOH appears to be contingent on significant resource depletion on the part of Iran and an economic downturn in the US with rising oil prices.

What could the continued rise in global energy prices mean for economies moving forward?

So far, we have seen Brent Crude oil price per barrel exceeding USD 100 and even reaching USD 126. If this selective closure persists, the situation can cloud economic progress and even create the perfect storm for recessions in countries like US and their allies. One way this is already impacting are fertiliser prices and availability as Urea prices have increased by 50% since the start of the war. This snowballs to overall increase in agriculture inputs with LNG disruption affecting planting season in the Northern hemisphere. This will undoubtably impact food prices towards latter part of 2026 and well into 2027. The macroeconomic impact will take flight through high inflation rates which will seep through into interest rates and markets in the long term. This can materialise to some extent regardless of the war ending, however, the recovery of this can be contingent on how soon the war ends. This is likely the greatest impact aside from energy disruption to the world. Secondary impacts include the cost to aviation by extension cargo and tourism. Surging jet fuel costs and closed Iranian and Iraqi airspaces has forced longer reroutes thereby increasing cost for the traveller and the airline therein. While this might not be a long-term impact, it is nonetheless a short-term impact that is causing disruption to countries that are determinant on imports, tourism and other sectors reliant on air travel.

All this points to a likelihood of economic downturns in certain countries. Already the International Energy Agency (IEA) chief has warned that April’s oil supply loss will be double that of March, as pre-war shipments dry up completely. Having already lost 12 million barrels per day the IEA head described this as the largest energy disruption in history, with rationing, inflation and growth slowdowns in emerging economies likely imminent. In the US, recession probability has surged across Wall Street, with Moody’s AI model sitting at 49%, while Goldman Sachs stands at 30% and EY Parthenon at 40%. The Federal Reserve is caught between cutting rates, risking inflation, or hiking. It is evident by now that the war does have a broad based impact from food to aviation to energy which can cumulate to an overall economic recession possibility. The recovery capacity will likely be determined on structural factors of economies such as fiscal stability coupled with structural enablers or barriers in relevant sectors.

How will Sri Lanka be impacted from this?

We are living through the impacts of interrupted oil supply, with rising oil prices to power outages. High cost air travel and shipping can largely impact tourism and exports. However, there are several mechanisms by which Sri Lanka reduces the dire impacts of this. First are the large fiscal buffers from tax revenue – they can act as a sponge to absorb some of the negative impacts of rising prices until and when the geopolitical tension eases. But it does not take away a complete impact of the war. Especially where remittances and tourism are a central source of revenue and foreign exchange to the country.

Second is the potential opportunity Sri Lanka’s Colombo port and even Hambantota port can be as a central point to trade routes instead of a purely transhipment route. This has a possibility given the efforts to expand the capacity via public and private partnerships. There has not been any materialisation of this in a large scale, but it is a possibility, nonetheless.

For decades, investors have treated it as the ultimate safe haven; the asset one relies on when everything else is falling apart. War breaks out? Buy gold. Inflation spikes? Buy gold. Dollar wobbles? Buy gold. When such conditions are absent, gold is of less importance.

That distinction matters enormously right now. The conditions that drove gold’s extraordinary 2025 rally have not just softened but also reversed. To understand why gold is falling now, one must understand how absurdly well it was doing just a moment ago.

Gold’s Big Run

The metal gained 64% in 2025, its strongest annual performance since 1979. The rally was well-founded at its origin: Central banks around the world were cutting rates, bond yields fell across multiple major economies and the dollar was declining. Gold was doing precisely what it was supposed to do under such conditions.

However, soon after gold had ceased to function as a monetary hedge and had begun to function as a momentum trade, not based on its intrinsic qualities but on the assumption that the favourable macroeconomic backdrop would persist indefinitely.

Gold entered 2026 at historically elevated price levels that had, by any conventional measure, already priced in a substantial degree of global risk. When an asset is priced for catastrophe and catastrophe duly arrives, the market reaction is often more muted than expected. The war in the Middle East is serious, but it was not, in a meaningful sense, a surprise to a market that had already spent a year pricing in geopolitical fragmentation. Put simply, gold may not be rising because it had already risen. While this may explain why gold prices have not risen, it does not explain the recent dip. Several factors need to be considered.

The Federal Reserve stalls rate cuts

At the start of 2026, financial markets were operating on a broadly optimistic assumption that the Federal Reserve would cut interest rates twice during the year. Gold is priced in US dollars, the Federal Reserve’s decisions carry a disproportionate weight in determining its global cost and appeal because gold is priced in dollars. When the Fed cuts rates, US bond yields fall and the dollar weakens both of which make gold cheaper for international buyers and less costly to hold relative to interest-bearing alternatives. No other central bank has such levels of influence on gold.

Then came February’s producer price index reading. It is one of the Fed’s early-warning signals for inflation. A reading of +0.7% meant that businesses were paying significantly more than expected, suggesting that inflation was not cooling as anticipated but was, in fact, re-accelerating. If inflation is still running hot, the Fed cannot justify cutting rates. So instead of two cuts, markets are now expecting just one. Some are questioning whether even that single cut would materialise.

The ten-year U.S. Treasury yield climbed back to 4.2%. Simultaneously, bold yields across major world economies also rose. Gold competes with bonds for capital, and when bonds offer more, the opportunity cost of holding gold rises. Institutional investors who had preferred gold because of the rate-cut found no more reason to hold onto gold and adjusted their positions accordingly.

The Dollar Strengthening

It’s hard not to see the irony in this case. The very forces generating anxiety in the Middle East along with the oil supply disruption have simultaneously strengthened the case for holding dollars. In such times, investors tend to seek safety in dollar-denominated assets, which pushes the currency higher. Add to that the prospect of interest rates staying elevated; this means dollar assets are offering better returns thereby becoming more attractive.

This creates a problem for gold. Since the metal is priced in dollars, a stronger currency makes it more expensive for buyers in Asia, Europe, and emerging markets. A Japanese investor or an Indian jeweller pays more in their local currency for the same ounce thereby reducing demand which in turn causes the price to fall. Gold’s safe-haven appeal and the dollar’s safe-haven appeal are, in this respect, in direct competition with each other.

The Oil Shock

The US-Israeli strikes on Iran in late February produced the kind of supply disruption that historically might have sent investors rushing into gold.

The disruption to Gulf oil supplies following the strikes on Iranian infrastructure sent crude prices sharply higher, feeding into the cost of transportation, manufacturing, and food across every major economy. This time around the oil shock has not merely raised prices in the near term, it has also raised the expected persistence of inflation across the global economy, giving central banks in the United States, Europe, and beyond additional justification for keeping monetary policy tighter for longer. The Bank of England cited energy costs explicitly in its most recent hold decision. The ECB flagged similar concerns. These decisions make interest-bearing assets more favourable than gold.

Leveraged Positions

When Iranian tensions first escalated, gold briefly spiked. Physical demand held firm, and premiums in the spot market remained high, suggesting that long-term buyers were not panicking. But the futures market behaved differently.

Leveraged speculators, like other investors, were also caught between a strengthening dollar, and a now hawkish Central Banks had little choice but to sell. Mostly because they needed cash to cover losses elsewhere, and gold was the most liquid asset they held. When they sold, the price dropped. When the price dropped this in turn forced more selling pushing the price further down.

What does this mean for Sri Lanka?

A falling gold price, measured in dollars, might seem like welcome relief for Sri Lankan buyers. But the rupee has weakened marginally against the dollar in the same period, which means that the price of gold in local currency terms has not fallen nearly as much as the international headlines suggest.

At the same time, Sri Lanka’s central bank, which has been carefully rebuilding its foreign reserves, holds a portion of those reserves in gold; a sustained decline in the golds value may put pressure on the reserve position.

For Sri Lankans who borrowed against gold jewellery a falling gold price can reduce the collateral value of those loans.

It is worth being precise about the nature of these risks, none of them are immediate, and most do not materialize unless gold prices continue falling over a sustained period. Pawnbrokers usually have buffers to absorb routine fluctuations, and the Central Bank’s reserve position remains strong. The concerns are likely to only materialize if the current sell-off proves to be the beginning of a prolonged structural decline rather than a cyclical correction.

The US-Israel war on Iran has now moved into its fourth week. Across these weeks, the fog of war has continued to be murky enough that it is both uncertain and volatile on what the future of the war is. However, one thing is clear enough. The conflict has lasted long enough and done enough damage, that it is now clear that the post-war environment will be markedly different from the pre-war context. As a result, we are now able to move into some clearer scenarios on what the future can be like and lay them out with clearer guidance on what that means for the Sri Lankan economy.

Our full note covers further details.

Clients with access to Frontier Athena can view the full report at athena.frontiergroup.info. For limited-time access, please contact us at research@frontier.info

The South Asian region has been recovering and has maintained its positive momentum in the past year. India was able to secure a favourable tariff deal with the US, Bangladesh successfully carried out its elections, Sri Lanka continued on its consistent path, recording twin surpluses, and Maldives saw a boom in tourism during the peak season. However, the region is now heavily impacted by the Middle East war, which brings both immediate and longer-term risks. The most immediate and obvious impact on the region is the rise in oil import costs. With crude oil prices at least 50% higher than pre-war levels, South Asian countries, which are primarily oil importers, will begin to feel the pressure. However, the impact of rising oil prices will be lower than in the past, as there has been an increase in solar power generation across the region, which can offset some of the price increases through a slight reduction in volume demand. Nevertheless, the overall impact remains negative, and countries have already resorted to measures such as for fuel rationing and increasing fuel prices. While the balance of payments impact can be managed for a few months using existing buffers, the immediate effect on inflation is more concerning. Although most countries in the region have recently recorded low inflation, Bangladesh is likely to be the most affected, as its inflation is already at elevated levels. The impact of the conflict goes beyond oil. A significant portion of worker remittances for the region, particularly for countries like Bangladesh, Pakistan, and Sri Lanka comes from the Middle East and has been a key source of foreign exchange inflows in recent times. While we do not expect an outright fall in remittances just yet, a prolonged conflict could slow migration and, in turn, reduce the growth of remittances from the region. Moreover, there is also an immediate impact on tourism earnings, particularly for countries like Maldives and Sri Lanka, as key travel routes may be disrupted during periods of escalation. Overall, we believe that the region could manage a conflict that remains escalated for a month or two using its existing buffers. However, a prolonged conflict could pose significant risks and potentially derail the current momentum the region has built over the past couple of years.

The full report covers further details, including:

1. Top 3 things you should know about the regional countries.

2. Summary of key economic indicators for the month.

3. Key news articles in detail,

Clients with access to Frontier Athena can view the full report at athena.frontiergroup.info. For limited-time access, please contact us at research@frontier.info

How have the conflict affected the global stock market?

Since USA’s initial attack on Iran with the “Operation Epic Fury” on 28^th February, Brent Oil Futures which were structurally at considerable low levels during 2025 and early 2026, climbed over 50% high as of last week’s closing price. The closure of the Strait of Hormuz has basically taken one fifth of global oil supply out of the system therefore, reducing global oil supply by an estimate of around 20 million barrels a day.

Apart from the direct effects of a decline in oil and gas, which then affects global trade and freight, creating a second wave of various economic complications, future outlook on oil prices and supply along with the overall escalated conflict of the region is also weighing on the decision of global investors. From the time of the initial attack, Dow Jones has fallen around 7%, S&P 500 by around 5.5% and NASDAQ by 4.5% over the past 3 weeks. Apart from US stocks, here’s how other major global indices have fared as of Friday the 20^th March.

o Shanghai Composite Index fallen by 5%

o Japan Nikkei 225 index fallen by 9%

o India’s Nifty50 fallen by 8%

o Hong Kong’s Hang Seng Index fallen by 5%

o London’s FTSE 100 fallen by 9%

o Europe’s STOXX 600 fallen by 10%

o Australia’s ASX fallen by 8%

With regard to the outlook on global stock markets, strategists from Goldman Sachs Group Inc., Morgan Stanley and JPMorgan Chase & Co. point to case for US stocks to remain intact despite risks posed by the war with Morgan Stanley forecasting bigger negative impact on European and Asian economies due to its higher exposure to fuel costs while U.S. equities could stay relatively less impacted helped by strong energy-sector performance and with global investors shifting to “safer” U.S. assets. At the same time, CGS international said a prolonged war could prompt a 10%-15% contraction in global stocks. overall, there seems to be a conflict in consensus regarding how stock markets would be affected in the short-medium term given the uncertainty on the duration of the conflict and its ramifications.

How are Central Banks reacting to the conflict?

The past week was a decisive week for most central banks, with their scheduled monetary policy decisions. The consensus among most economists prior to February 28^th were for most central banks to go for rate cuts given the falling inflation expectation and weakening job market. However, with volatile global energy prices reigniting inflation fears among most countries, the Bank of England, U.S.’s Federal Reserves, the Bank of Japan along with the Bank of Canada all decided to maintain current rates citing middle east uncertainty. Economists argue that energy price hikes are far more dangerous unlike wage-push inflation which can be balanced by increased productivity. Energy inflation would bring about a cascading effect by raising the cost of production, logistics and transport which could have a longer-term impact to inflation.

Against this backdrop, government bond yields from Britain to Italy and the United States have also experienced a considerable volatility over the past three weeks as a chain reaction from heightened inflation pressure. According to The Guardian, UK’s bond yield have surged to their highest levels since 2008 with growing weight for the BoE to raise rates up to three rates this year while CME FedWatch has increased the probability for the U.S. Federal Reserves to raise benchmark rates by at least 25 bps.

What’s going on with gold and what does USD have to do with this?

Gold, typically seen as a safe-haven at times of global uncertainties is behaving in a contrarian manner with prices recording strong downturns. Prior to the Middles East conflict, Gold surged above $5,300 an ounce extending historic rally as economic and geopolitical uncertainties together with weakened confidence in the U.S. dollar in the early months of 2026. However, with Iran-Israel U.S. war, the prices of gold and other precious metals started a sharp fall despite increased market and geopolitical uncertainties. As of last Friday, Gold Spot fell by nearly 19% with gold trading lower than before the war began.

Two specific factors point to this. One being the relatively stronger U.S. Dollar from before the war began. In fact, the dollar has strengthened against all major currencies, once against regaining its place as a safe-haven asset on the back of oil price surge, which are priced in dollars. Given that relative strength of the U.S. Dollars, it now becomes more expensive for international buyers using other currencies to purchase Gold. Due to this, demand from those buyers have declined considerably and has pushed prices down. At the same time, with rising oil prices driving up global inflation, it becomes more difficult for Central Banks and monetary policy decision makers to go for rate cuts. With investors expecting rates to climb higher than its current levels, gold becomes less attractive due to the lack of an interest return while investments can offer high return especially with the possibility of higher rates becoming more than possible than before.

What the global market reaction to the ME conflict could mean for Sri Lanka?

While Frontier Research has put out few reports on the direct economic implications of the ME conflict to the country’s economy, global market reactions to the situation could also have a number of effects to the economy. Starting off with a relatively stronger USD which could mean some depreciation pressure for emerging market currencies including the LKR and thereby a double shock to the oil bill in addition to the already higher oil prices. CT Smith also warns that potential uptick in inflation could limit the likelihood of a Central Bank policy rate reduction in the near term just as for most global central banks. The Sri Lankan stock market has also reacted and remained quite bearish to the ME conflict with over Rs. 1 trillion being wiped off from the Colombo Stock Market since the conflict began according to Ada Derana.

Sri Lanka’s financial markets have been experiencing modest pressure following the outbreak of Operation Epic Fury in the Gulf region roughly two weeks ago. Despite significant military exchanges and shipping disruptions driving oil prices past USD 100 per barrel, the Sri Lankan rupee has depreciated by only about 0.56%, slightly less than the 0.7% seen during a comparable 12-day conflict last year. This as a relatively contained reaction, particularly if the conflict proves to be short-lived.

A key reason for this resilience is the strong external position Sri Lanka enjoys. Inflation is also expected to remain manageable given that it had been running well below the CBSL’s 5% target prior to the conflict and any upward movement here could be contained.

The topline message for now is that if things do turn quite rapidly as we suggested in our full note, oil prices could snap back pretty quickly too. Alongside that, other fundamental factors encouraging a significant rebound indicate that if resolution comes faster and more decisively than expected, do not rule out a fairly sharp easing on both fronts. In a baseline scenario any costs can be absorbed as well, and in a case where there are costs outside the baseline scenario, we don’t think those will be existential given the strength of the buffers we have outlined.

Our full note covers further details.

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