- The Bank of England held its base rate at 3.75%, but three of nine policymakers voted for an increase to 4%.
- Inflation is expected to rise from 2.6% to 3.2% later this year, with the outlook heavily dependent on oil and gas prices.
- Prolonged monetary tightening would raise financing costs across capital-intensive energy projects, even where revenues are government-backed.
The Bank of England has kept interest rates unchanged as policymakers wait for clearer evidence of whether the Middle East energy shock will cause a sustained increase in wider inflation.
The Monetary Policy Committee voted 6-3 to maintain Bank Rate at 3.75%, compared with the 7-2 split expected by most economists. Catherine Mann joined Megan Greene and chief economist Huw Pill in supporting a quarter point increase to 4%.
Governor Andrew Bailey said holding rates was appropriate because global conditions had become more inflationary while domestic pressures remained comparatively benign.
The Bank’s minutes identified the conflict in the Middle East as the dominant risk to its forecast. Brent crude futures stood at $84 a barrel and UK front-month gas at 136p per therm on 28 July, both materially above pre-conflict levels.
Motor fuels contributed 0.6% to the UK’s 2.6% inflation rate in June. Higher crude, refined product and gas prices are expected to raise transport, manufacturing and household costs further during the remainder of the year.
The Bank’s central forecast puts inflation at 3.2% in the fourth quarter before it falls below the 2% target in early 2028. Economic growth is forecast to remain subdued at around 1.1% through the third quarter of next year.
That projection assumes oil and gas prices gradually decline and that businesses and employees do not respond to the shock with substantially higher prices and wages. An adverse scenario, in which oil averages 30% above the central assumption and gas is 60% higher, would push inflation to 4.1% in 2027 while weakening growth.
For the six members who favoured holding rates, softer wage growth and a loosening labour market provided evidence that the energy shock was not yet becoming embedded. The UK unemployment rate stood at 4.9% in the three months to May, while private sector pay growth has fallen to its slowest pace since 2020.
The minority was less reassured. Its members argued that inflation’s extended period above target made it more important to prevent second-round effects before they developed.
Financial markets interpreted the decision as less hawkish than the vote initially appeared. Traders reduced their expectations for tightening during 2026, while the two-year gilt yield fell by 12 basis points to around 4.34%. Markets nevertheless continued to price in a rate increase before the end of the year.
The decision has consequences well beyond household mortgages. Government bond yields provide a benchmark for the debt and equity returns expected by investors in renewables, grids, storage and nuclear infrastructure.
Fixed-price contracts can protect projects against power market volatility, but they do not remove financing risk. A developer raising capital at a higher interest rate must secure a higher strike price, accept a lower return or reduce construction and operating costs.
The Bank also estimates that quantitative tightening has added between 0.2% and 0.3% to gilt yields since 2022. It is expected to reconsider the pace of bond sales in September.
The immediate economic question is whether the energy shock fades before it changes domestic behaviour. For the transition sector, the more durable concern is that high borrowing costs persist after commodity prices recede.
The government can transfer levies from electricity bills to taxation and use long-term contracts to stabilise project revenue. It cannot entirely shield an infrastructure programme from the price of capital. If rates remain higher for longer, the cost will eventually appear in project delays, public support requirements or consumer prices.
