The Bank of England has raised interest rates for the first time in three years and warned of another increase to come to combat rising inflation unleashed by the Iran war.
Eight members of the Bank’s monetary policy committee (MPC) voted for the move, which takes the base rate from ۳.۷۵% to ۴%. The ninth member, Catherine Mann, preferred a more dramatic half-point increase.
The Middle East conflict has pushed oil prices persistently above $۱۰۰ in recent months, as hopes evaporated of a deal that could reopen the key strait of Hormuz.
As a result, the Bank now expects UK inflation to rise to ۴.۹% in the middle of next year – up from ۳.۲% in its last economic forecast, in July. Inflation hit ۳.۵% in September, as measured on the consumer prices index.
The decision, which will hit mortgage borrowers, comes a week after John Healey used his first budget to promise “breathing space” for hard-pressed consumers. Echoing the Office of Budget Responsibility’s gloomy forecasts for living standards, the MPC expects real post-tax income to fall, this year and next.
The Bank’s governor, Andrew Bailey, raised the prospect of another rate rise in the near future – with a resolution to the Iran conflict the key factor that will influence the decision.
“Without news which softens the risks to inflationary pressures, I can see the argument for a further increase in rates and thereafter taking a more conditional approach,” he said, in the MPC minutes.
However, he played down the likelihood of a prolonged series of increases, as markets have been predicting. “Today’s increase shouldn’t be seen as the first in an inevitable long sequence in hikes. But, unless the conflict in the Middle East is resolved, neither does it seem likely to be the last increase,” he said. The Bank’s next interest rate decision will be announced on ۱۷ December.
Oil prices have fallen sharply, to below $۱۰۰ a barrel, in the wake of the Democrats’ victories in the US Congress, which some investors interpreted as potentially constraining Donald Trump’s capacity to prolong the conflict in Iran. Trump’s vice-president, JD Vance, blamed the war, and its impact on inflation, for the rout.
Explaining their decision to raise borrowing costs, the MPC highlighted the pass-through from elevated oil prices to business and consumer costs across the economy. It expects the Ofgem energy cap to rise from the equivalent of £۱,۷۲۳ a year for an average household in Great Britain to £۲,۱۵۰ in January and to increase again in April. Food price inflation could hit ۴.۷۵% by mid-۲۰۲۷, it warns.
Businesses have so far reported in the Bank’s surveys that they have been able to absorb soaring oil and gas prices – by hedging their energy costs, for example – but the MPC believes they will soon have to start passing them on to consumers, in higher prices.
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They are also concerned about workers seeking to offset the impact of the higher cost of living, by bidding for bumper pay rises.
While the decision to increase rates was supported by all MPC members, the minutes of the meeting reveal stark divisions over how much further they may need to go, to bring inflation under control. The dovish Alan Taylor suggested this should be a “risk-management ‘one-for-now’ insurance hike”, while Mann argued that an immediate half-point rise was necessary to restore the Bank’s inflation-fighting credibility.
Healey’s budget included measures aimed at cushioning the impact of higher energy prices – including extending the fuel duty freeze and the VAT cut on electricity bills. The MPC said the package would shave a quarter percentage point off inflation in mid-۲۰۲۷.
Responding to the interest rate increase, Healey said: “The Iran conflict is reaching deep into the pockets of families and businesses here at home.
“In my budget I acted to give some breathing space to families and businesses. Twenty million households will get a £۱۰۰ energy payment, I extended the tax cut on electricity bills and froze fuel duty. I also set out the course ahead to get costs down for good.”
