The Bank of England chose to hold interest rates at 3.75% on Thursday, but the possibility of a June rate increase has become very real following the surge in energy prices caused by the US-Israel war against Iran. All nine members of the monetary policy committee voted in favour of the hold, citing the need to assess the evolving situation before taking action. The Bank warned, however, that inflation could rise above 3% and that borrowing costs may need to increase in the months ahead.
Prior to the outbreak of the Iran conflict, market expectations had firmly pointed toward a rate cut at this meeting. The war has flipped that narrative, pushing global oil and gas prices sharply higher and undermining confidence that UK inflation would sustainably reach the 2% target this spring. The Bank now projects inflation climbing to around 3.5% in March and remaining above its target throughout 2026.
Governor Andrew Bailey acknowledged the gravity of the situation, saying the war had delivered an unwelcome shock to the UK economy at a delicate moment. He pointed to petrol prices as the most immediate visible impact and warned that household energy bills could rise significantly if supply disruptions continue. Despite the hawkish undertone, he cautioned markets against assuming rate hikes were guaranteed.
Financial markets were not convinced by the governor’s restraint, moving to price in a June hike with high confidence and pencilling in a further increase before December. UK sovereign bond yields rose and the pound strengthened against the dollar. The FTSE 100 fell as investors recalibrated for a more restrictive monetary policy environment.
The political and economic pressure on the government is growing. Five-year fixed mortgage rates are rising, and analysts have described the trend as a direct threat to Labour’s growth strategy. The chancellor is reportedly considering an energy support package to protect the most vulnerable households from what could be a painful second half of 2025.