Bank of England holds rates, warns on prolonged conflict in the Middle East
London, Sept. 2026 – The Bank of England said UK inflation is likely to rise above 4% early next year as it kept interest rates unchanged on Thursday, while Governor Andrew Bailey explicitly warned that a prolonged conflict in the Middle East could require tighter monetary policy.
The Monetary Policy Committee again voted 6-3 to keep interest rates at 3.75%, while three members backed an increase to 4%, in line with the median forecast of economists polled by Reuters.
However, the minutes of this week’s meeting showed a clear shift in the central bank’s tone.
“So far, higher global energy costs have had a limited impact on price and wage setting in the UK. But the longer these disruptions last, the greater their impact on inflation, and the more likely it is that we will need to raise Bank Rate to ensure inflation returns to our 2% target,” Bailey said.
The Bank of England said inflation risks had shifted further to the upside since its last set of economic forecasts was published in July, adding that the movement in energy prices since then bore some resemblance to the “adverse” scenario that could threaten to entrench inflation.
Although the Bank said signs of persistent inflationary pressures had yet to emerge in the labor market or corporate pricing, it warned that the risks were increasing.
The central bank also overhauled its plan for reducing its holdings of UK government bonds accumulated during previous efforts to stimulate the economy, meaning it will halt active sales of gilts in the market for now.
Inflation could exceed 4% in early 2027
For most households and businesses, however, the changing outlook for interest rates is likely to be the main focus.
The warning about possible rate hikes comes at a difficult time for Prime Minister Andy Burnham and Finance Minister John Healey, who are seeking to strike a positive tone on the outlook for the UK economy ahead of the budget scheduled for October 28.
Although the Bank of England raised its estimate for quarterly economic growth in the third quarter to 0.4%, from its previous estimate of 0.1%, it said inflation, which stood at 3.1% in August, could “now rise to a little over 4% in early 2027.” The Bank had previously expected inflation to peak at 3.2% in late 2026.
Inflation has exceeded the Bank’s 2% target in almost every month over the past five years, with only three exceptions, while the central bank has adopted a more hawkish tone on the outlook for price pressures.
“Given the lags with which second-round effects have emerged, it would not be appropriate to wait too long for evidence of these effects to appear before responding with monetary policy,” the Bank said.
Bank of England Chief Economist Huw Pill and external Monetary Policy Committee members Megan Greene and Catherine Mann again voted to raise interest rates by a quarter of a percentage point.
This time, however, Governor Bailey and Deputy Governors Sarah Breeden, Clare Lombardelli and Dave Ramsden all pointed to the possibility of a future increase in Bank Rate, according to the monetary policy meeting minutes.
Bank of England overhauls bond reduction plan
The Bank of England also carried out a major overhaul of its approach to reducing its holdings of gilts, a process that until now had been set annually and announced each September.
The Monetary Policy Committee said it wants to reduce its holdings of gilts held for monetary policy purposes to zero by 2034, while retaining some very long-dated bonds purchased to support banknote issuance.
In a departure from its previous approach, under which the Bank actively sold UK government bonds across a range of maturities into the market, the Bank said it would hold bonds maturing before 2035 until they mature.
The Bank will also consider selling bonds maturing between 2035 and 2049 back to the government, with plans to be announced before April next year.
In the meantime, the Bank of England said it would temporarily halt all active bond sales. (economies.com)
