Israel-Iran tensions escalated on April 13 after Iran launched drone and missile strikes against Israel in retaliation for a suspected Israeli air strike that destroyed the Iranian consulate in Damascus, Syria. Additionally, Iran’s Revolutionary Guards seized an Israeli-linked container ship near the Strait of Hormuz.

Moody’s Investors Service said the impact on Israel has been limited due to successful interception of most Iranian missiles and drones. Gas production from offshore fields (Leviathan, Karish, Tamar) and operations of Israel Electric Corporation remained unaffected. Financial markets also showed muted reaction, with Brent crude prices hovering around $90 a barrel.

However, this marks a significant escalation from the previous baseline scenario. While Israel is expected to respond, the nature and timing remain unclear. The US (Aaa negative) is expected to maintain military and financial support for Israel, primarily focused on defence.

The rating agency’s new baseline anticipates tit-for-tat exchanges, potentially including sporadic fire, without causing significant damage to life and infrastructure. A full-scale military conflict is deemed unlikely due to the potential human and economic costs.

These events are currently reflected in the negative outlook on Israel’s A2 sovereign rating. The country’s banks and insurers have shown resilience so far.

Moody’s explained that as previously stated, a significant escalation that undermines Israel’s institutional capacity, public finances, or economy would put downward pressure on sovereign ratings. Banks and insurers would also be more vulnerable in such a scenario. Gas field projects are particularly exposed due to the potential for physical damage.

Further escalation through direct exchanges of fire could increase the risk of miscalculations leading to a wider conflict. A full-blown war could involve the US and other countries, potentially targeting critical energy infrastructure, attempting to close transport routes (Strait of Hormuz), or leading to airspace closures in the Middle East.

This extreme scenario would likely damage investor sentiment, increase financial market volatility, and tighten financial conditions across the region. Credit effects would be felt through heightened security concerns, energy and supply chain disruptions, and weaker macro-financial conditions.

The global economic impact would primarily depend on the severity and duration of energy supply disruptions and any related oil price spikes. A severe and sustained oil price increase would be needed to push the global economy into recession.

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