Bank of England holds rates, and warns of ‘new shock to economy’ from Middle East crisis
Newsflash: The Bank of England has kept UK interest rates on hold at 3.75%, as it weighs up the impact of the Middle East conflict on Britain’s economy.
As expected, the Bank’s rate-setting monetary policy committee (MPC) voted by a majority to keep its key base rate at the current level of 3.75% (before the Iran war, a rate cut today had been widely predicted)
The decision is unanimous too; all nine policymakers on the Monetary Policy Committee agreed that rates should remain on hold.
The Bank is also warning that inflation will be higher in the “near term” due to the shock from higher energy prices.
It says:
Conflict in the Middle East has caused a significant increase in global energy and other commodity prices, which will affect households’ fuel and utility prices and have indirect effects via businesses’ costs. Prior to this, there had been continued disinflation in domestic prices and wages. CPI inflation will be higher in the near term as a result of the new shock to the economy.
Key events
Two-year bond yields on track for biggest jump since 2022 mini-budget crisis
UK government bond prices are being hammered by City traders, following the Bank’s warning that the energy crisis could create ‘second round’ effects to push inflation higher.
With prices falling, the yields (or interest rate) on UK gilts are pushing sharply higher.
Shorter-dated UK bonds are particularly hit.
The yield in two-year gilts have jumped by 35 basis points (0.35 of a percentage point) to 4.47%, the highest since January 2025.
That puts them on track for the biggest daily increase since Liz Truss’s “mini-budget” crisis of September 2022.
The Bank of England MPC must have had one of their most difficult meetings, before deciding to leave rates unchanged today, suggests Michael Browne, global investment strategist at Franklin Templeton Institute.
He writes:
What should they do in the face of a very real inflationary threat? As we dust off the 2022 playbook, we know the damage energy driven inflation can inflict – but to use the Scottish legal term, it is not yet proven.
“Last night, US markets sold off sharply after [Federal Reserve] chairman Powell failed to sound tough enough. Bond markets are nervous and need reassurance that monetary authorities are on top of their brief and prepared to raise interest rates sooner rather than later.
The minutes suggest the MPC is very alive to the risks and while that may not be enough for the market today, investors should be re-assured that they will act, even though a rate rise would be bad news for the economy.”
In the parallel universe where the US and Israel didn’t attack Iran on 28 February, we’d probably be talking about a cut to interest rates today.
Just before the war, a rate cut today was seen as an 80% chance by the money markets.
Bank deputy governor Sarah Breeden says she would have expected to vote for a cut today, has circumstances not changed:
Conflict in the Middle East has significantly shifted the outlook for inflation. Absent this shock, the underlying disinflation process had continued broadly as I expected and, consistent with my vote in February, I would have expected to vote for a cut again in March. But the conflict will have a significant, though at this point highly uncertain, impact on inflation.
Why are mortgage rates going up when the Bank of England base rate hasn’t changed?
Although the Bank of England has left rates on hold today, mortgage rates have been rising since the Iranian war began.
Here’s why:
Bank now expected to raise interest rates twice this year
City traders are betting that the Bank of England will raise UK interest rates at least twice this year, to combat the inflationary hit from the Middle East crisis.
The money markets are now fully pricing in a quarter-point rise in Bank rate, to 4%, by June.
A second hike, to 4.35%, is fully priced in by September.
These implied interest rates are volatile today, though.
Traders are reacting to the Bank’s prediction that inflation will average 3% in the second quarter of this year, not fall to 2.1% as previously expected (see here).
They are also noting its concern about the risks of “second-round effects in wage and price-setting” – that high energy bills will lead to higher wage demands, and higher prices in the shops.
BoE governor: I will be monitoring developments extremely closely
The governor of the Bank of England, Andrew Bailey, is worried that households and businesses may be “more sensitive” to an inflationary shock, having recently experienced one after Russia’s invasion of Ukraine.
That looks to be a concern that firms and workers may react quickly to rising energy prices – by raising their own prices, or by seeking higher wages.
Bailey – who had been the ‘swing voter’ between the hawks and the doves at the Bank – says:
Large movements in energy prices have resulted from events in the Middle East and uncertainty over the duration of supply disruptions. Monetary policy cannot reverse this shock to supply. Its resolution depends on action taken at its source to restore the safe passage of shipping through the Strait of Hormuz.
Monetary policy must, however, respond to the risk of a more persistent effect on UK CPI inflation. A prolonged disruption to the supply of oil, natural gas and other commodities such as fertiliser and neon gas increases the upside risk to inflation. The recent experience of high inflation may also make households and businesses more sensitive to a new inflationary shock. At the same time, the starting point for this shock is a real economy with limited pricing power.
Holding Bank Rate at this meeting is appropriate. I will be monitoring developments extremely closely and stand ready to act as necessary to ensure that inflation remains on track to meet the 2% target in the medium term.
Bank’s hawks and doves in rare agreement
It’s notable that both the hawks and the doves on the Bank of England all agreed to leave interest rates unchanged.
At previous meetings, there’s been a clear split between the hawks (who want higher borrowing costs to fight inflation) and the doves (who favour lower rates to support the economy).
The Bank has published views from all nine policymakers on the Monetary Policy Committee.
The hawkish Megan Greene warns that the Middle East conflict means “the risk of inflation persistence has risen, perhaps significantly”.
Greene points to the risk that energy, fertiliser and food prices all rise, pushing up households’ inflation expectations, adding:
I believe there may be a larger trade-off now than in 2022, but that the impact of this energy shock on inflation is paramount. It is appropriate to hold Bank Rate to learn more about the size and duration of the shock, and the extent of potential second-round effects.
Swati Dhingra, a dovish committee member, says the economic outlook is at “a crossroads” – and it all depends how high energy prices rise, and for how long.
Dhingra says:
In one scenario, we could see a more modest increase in energy prices which probably slows rather than derails disinflation as limited scope exists for significant pass-through and second-round effects, given the state of the labour market and broader domestic demand environment.
In another scenario, severe and longer-lasting constraints on oil and gas supply, alongside broader trade disruptions, could overwhelm orderly market adjustment. This could warrant a hold or increase in Bank Rate to stabilise price-setting dynamics albeit creating a difficult trade-off with activity following a prolonged period of weakness.
If we see something resembling the lower-inflation scenario, I would expect to reduce Bank Rate, possibly quickly, over the rest of the year. For now, there is value in pausing to reassess the balance of risks to inflation from the terms-of-trade deterioration.
Bank warns inflation could average 3% in April-June
The Bank of England has ripped up its previous forecasts that inflation would fall back to just above its 2% target this spring.
It now predicts that the Consumer Prices Index will be around 3% in the second quarter of this year, up from a previous forecast of a fall to 2.1%.
The Bank says:
CPI inflation had previously been projected to fall in 2026 Q2, as previous one-off price increases in April 2025 dropped out of the year-on-year comparison alongside the disinflationary effect of the 2025 Budget.
Given higher fuel prices, the decline between Q1 and Q2 was now projected to be modest. CPI inflation was expected to be around 3% in Q2 rather than 2.1% in the February Report.
Bank of England ‘stands ready to act’ to keep inflation on track
The Bank of England says it “stands ready to act” to ensure that UK inflation remains on track to hit its 2% target.
Announcing today’s decision to leave interest rates unchanged at 3.75%, it says there is a growing risk that higher energy bills leads to higher prices in the shops, and increased wage demands to compensate (which push inflation higher).
The Bank says:
Monetary policy cannot influence global energy prices but aims to ensure that the economic adjustment to them occurs in a way that achieves the 2% target sustainably. The MPC is alert to the increased risk of domestic inflationary pressures through second-round effects in wage and price-setting, the risk of which will be greater the longer higher energy prices persist. The MPC is also assessing the implications for inflation of the weakening in economic activity that is likely to result from higher energy costs.
The Committee will continue to monitor closely the situation in the Middle East and its impact on global energy supply and energy prices. It stands ready to act as necessary to ensure that CPI inflation remains on track to meet the 2% target in the medium term.
Bank of England holds rates, and warns of ‘new shock to economy’ from Middle East crisis
Newsflash: The Bank of England has kept UK interest rates on hold at 3.75%, as it weighs up the impact of the Middle East conflict on Britain’s economy.
As expected, the Bank’s rate-setting monetary policy committee (MPC) voted by a majority to keep its key base rate at the current level of 3.75% (before the Iran war, a rate cut today had been widely predicted)
The decision is unanimous too; all nine policymakers on the Monetary Policy Committee agreed that rates should remain on hold.
The Bank is also warning that inflation will be higher in the “near term” due to the shock from higher energy prices.
It says:
Conflict in the Middle East has caused a significant increase in global energy and other commodity prices, which will affect households’ fuel and utility prices and have indirect effects via businesses’ costs. Prior to this, there had been continued disinflation in domestic prices and wages. CPI inflation will be higher in the near term as a result of the new shock to the economy.
Stocks are continuing to lurch lower in London.
The FTSE 100 is now down 217 points at 10,087 points, a fall of 2.1% today. That’s a two-month low.
In just five minute’s time, the Bank of England will announce its decision on interest rates.
The City is widely expecting the BoE to hold rates at 3.75%. The real interest is in what the Bank’s policymakers say about the energy price surge, and its impact on the UK economy.
Germany’s economy minister, Katherina Reiche, has warned that high energy prices could drive companies out of Europe’s biggest economy, as she expressed concern about the attacks on energy infrastructure in the Middle East.
Losses across European markets
European stock markets are down across the board this morning.
Germany’s DAX has dropped by 2.3%, France’s CAC 40 is down 1.7% and Italy’s FTSE Mib and Spain’s IBEX have both lost 2.2%.
The UK’s FTSE 100 is little better – now down 1.9% at 10,109 points (-196 points today)
Raffi Boyadjian, lead market analyst at XM, says:
The brief spout of optimism earlier in the week has dissipated as the conflict in the Middle East shows no sign of easing, while the gatherings of the world’s most important central banks have shunned the spotlight on the fresh inflation threat facing the global economy.
The overriding trend of higher energy prices and tighter monetary policy is making its mark again on the markets, with risk assets crumbling and gold succumbing to the US dollar’s strength, as investors struggle to see an end to the war.
Israel struck Iran’s South Pars gas field on Wednesday, which is the world’s largest natural gas field, triggering an angry retaliation by Tehran. Qatar’s Ras Laffan Industrial City – the largest LNG plant in the world – came under attack again, prompting an intervention by the US President.
Posting on his Truth Social platform, Trump attempted to diffuse the situation by distancing the US from Israel’s actions, saying America was unaware of those plans and that “no more attacks will be made by Israel” on South Pars. However, he also warned Tehran that any new strikes on Qatar’s LNG facility would be met by a strong response.
Ryanair CEO Michael O’Leary has predicted today that European tourists are likely to travel closer to home to cut flight times and avoid flying long-haul over the Middle East.
He was speaking at a news conference in Brussels where airline CEOs called on the EU to postpone its mandates for the use of synthetic sustainable jet fuel (eSAF).
