- Two deputy governors who voted to hold rates in September have signalled that persistent energy inflation could change their position.
- The Bank now expects inflation to reach about 4.2% in early 2027, while household energy bills are projected to exceed £2,000.
- For energy investors, the shock is becoming a financing issue as well as a commodity price story, increasing the risk of a higher UK cost of capital.
UK interest rates could rise further after two senior Bank of England policymakers warned that persistently high energy prices were increasing the risk of inflation becoming embedded in wages and consumer prices.
Speaking late last week, deputy governor Clare Lombardelli said monetary policy was “increasingly likely to need to tighten if elevated energy prices persist”, unless weaker activity or clearer evidence of disinflation changed the outlook.
Separately, fellow deputy governor Sarah Breeden said: “The more sparks we’re throwing in the tinderbox, the more likely we might have to turn the hose on it.”
Both officials were among the six Monetary Policy Committee (MPC) members who voted on 16 September to hold the bank rate at 3.75%. Megan Greene, Catherine Mann and Huw Pill supported an immediate increase to 4%, producing a 6-3 decision. A shift by both deputy governors would therefore be sufficient, all else being equal, to create a majority for higher rates. The next decision is due on 5 November.
Markets were assigning a 75% probability to a quarter-point November increase following the speeches, with another rise priced by February, Reuters reported. That pricing remains vulnerable to oil and gas movements and any diplomatic breakthrough affecting energy flows.
Second-round effects
The Bank’s immediate concern is not that interest rates can reverse an externally driven energy shock. Rather, it is that repeated increases in visible prices such as petrol, electricity and food alter expectations and wage bargaining.
Lombardelli said Brent crude had risen 26% since the Bank’s July report to about $98 a barrel on 22 September, while gas prices had increased by roughly 50% in recent weeks. UK petrol prices had climbed from about 132p a litre in February to 172p in September.
The Ofgem price cap will rise by almost 4% in October, taking the typical annual household bill to £1,723. The Bank projects that figure will exceed £2,000 in the first quarter of 2027. Its latest calculations put CPI inflation at about 3.7% in the final quarter of 2026 and 4.2% in early 2027. Without government support and the temporary reduction in electricity VAT, the latter figure would be closer to 4.5%.
There is still a case for restraint. Businesses have so far absorbed more of the shock through hedging and margins than policymakers expected. Food inflation is only 1.3%, while pay settlements have averaged 3.6% in 2026, down from 4% last year. The labour market also retains some slack.
Those buffers are finite, however. Energy hedges expire, margins cannot absorb rising costs indefinitely and above-target inflation will be highly visible during the 2027 pay round. That explains why previously cautious MPC members are becoming less willing to wait for conclusive evidence of second-round effects.
There are uncomfortable implications for the energy sector. Elevated wholesale prices may support merchant revenues for some generators and storage assets, but higher gilt yields and borrowing costs increase the hurdle rate for capital-intensive infrastructure. Developers exposed to refinancing, construction debt or uncontracted revenues could therefore face tighter conditions even while energy prices remain strong.
The indicators to watch are no longer oil prices alone. Wage expectations, business pricing surveys, food inflation and the duration of the geopolitical disruption will determine whether the energy shock produces one rate increase or a more sustained tightening cycle.
