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The Bank of England is set to “talk tough” but keep interest rates on hold, economists forecast, as it meets this week against a backdrop of renewed conflict in the Middle East reigniting energy prices.
Since the Monetary Policy Committee last met in June, the collapse of the ceasefire between the US and Iran has pushed the global oil price back towards $100 a barrel and European gas prices up to peaks not seen since the early days of the conflict.
Prices could jump further if shipping routes out of the Gulf remain blocked.
The UK economy has held up better than the MPC expected in the first months of the conflict, with GDP growing 0.7 per cent in the three months to May.
There is little sign yet of the energy shock stoking more persistent price pressures. Consumer price inflation has undershot forecasts for three successive months, easing to 2.6 per cent in June.
Wage growth, a key source of inflationary pressure, has slowed, as have gains in food prices, which often drive public perceptions of inflation.
Economists say that this will allow the nine-member MPC to hold rates at 3.75 per cent on Thursday, while signalling that it will be ready to tighten policy if energy prices shoot up further or if a one-off price shock starts to look like a more persistent problem.
This policy of “standing pat and talking tough” has served the BoE well at recent meetings, argues Rob Wood, chief UK economist at the consultancy Pantheon Macroeconomics.
Investors are betting there will be one or two rate increases [by the end of 2026] and are therefore “doing MPC members’ job for them” with financial conditions tighter than before the conflict began, he added.
Jack Meaning, economist at Barclays, said swing voters on the committee had signalled they were “comfortable with the expected path of inflation”. The MPC was likely to be “cautious and non-committal” about how policy might evolve later in the year, he added.
Some economists argue that the MPC will use this week’s meeting to signal the possibility of a rate increase as soon as September if the situation in the Gulf has not eased.
In April, instead of publishing a central forecast for inflation, the BoE set out three scenarios reflecting different possible paths for energy prices and domestic price pressures.
BoE governor Andrew Bailey suggested interest rates might not need to rise in the two milder scenarios, given financial conditions had already tightened.
“The BoE has shown a preference for patience since the start of the conflict . . . but recent developments may test that patience,” said Dani Stoilova, economist at BNP Paribas.
She noted that UK gas and electricity prices — which matter more than oil to the UK’s inflation outlook — had already overshot the assumptions underpinning the BoE’s milder scenarios.
Economists already expect the MPC to split along familiar lines, with at least two members — Megan Greene and BoE chief economist Huw Pill — voting for a quarter-point rate increase to prevent inflation getting out of hand.
A change of tone from one of the “centrist” members of the committee — such as deputy governors Clare Lombardelli and Dave Ramsden, or Bailey himself — would be more telling and point to a majority shifting in favour of a rise in coming months.
The headline rate of CPI is on course to rise above 3 per cent from the autumn. That is sometimes viewed as a psychological threshold at which people start to change their behaviour in expectation that inflation will stay high.
One unspoken worry on rate-setters’ minds may be that the BoE will look passive if — after missing its target for the past five years — it waits while the European Central Bank readies itself to raise rates in September.
“The longer the conflict continues, the more nervous the MPC is set to become,” said Sandra Horsfield, economist at Investec. If a durable resolution were in sight, the MPC would be able to “hold out” and avoid increasing this year, she added, but “with each day of squeezed energy supplies, it is getting [to be] a closer and closer call.”
