Bank of England holds rates at 3.75% as Middle East crisis clouds outlook

The Bank of England has held interest rates at 3.75%, pausing what had been widely expected to be the start of a rate-cutting cycle, as policymakers grapple with a fresh economic shock triggered by escalating conflict in the Middle East.

In a unanimous decision, all nine members of the Monetary Policy Committee (MPC) voted to keep Bank Rate unchanged, citing heightened uncertainty and a sharp rise in global energy prices that is set to push inflation higher in the near term.

Energy shock reshapes outlook

The Bank warned that disruption to oil and gas supplies – particularly through the Strait of Hormuz – has driven a significant increase in energy and commodity prices. Brent crude has surged above $100 per barrel, while European gas prices have risen sharply, creating a new inflationary pressure for the UK economy.

As a result, CPI inflation is now expected to remain above 3% for much of 2026, with projections suggesting it could reach around 3.5% in the coming months – delaying the return to the Bank’s 2% target.

While monetary policy cannot directly influence global energy prices, the MPC emphasised its role in preventing these external shocks from becoming embedded in domestic wage and price-setting behaviour.

A delicate balancing act

The latest decision highlights the difficult trade-off facing policymakers. On one hand, higher energy costs risk reigniting inflation. On the other, they are likely to weigh on already subdued economic growth.

UK GDP growth remains weak, with output barely expanding and the labour market showing signs of slack. Rising energy bills are expected to squeeze household incomes further, potentially dampening demand and increasing unemployment.

The MPC acknowledged this tension, noting that a prolonged energy shock could require tighter policy to contain inflation, while a short-lived disruption might allow for future rate cuts if economic weakness deepens.

Markets rethink rate path

Financial markets have already adjusted expectations, with the anticipated path for interest rates shifting upwards in recent weeks. Prior to the conflict, a cut at this meeting had been widely priced in.

Instead, policymakers signalled a “wait and see” approach, with greater clarity expected over the coming weeks as the scale and duration of the conflict becomes clearer.

Industry leaders said the decision provides short-term stability but prolongs uncertainty for businesses already navigating a challenging environment.

Mike Randall, CEO of Simply Asset Finance, said: “The decision to hold interest rates offers businesses some short-term stability, but underlines the uncertain outlook for the months ahead. Investment decisions are becoming harder to time.”

Neil Rudge, Chief Banking Officer at Shawbrook, described the move as a setback for SMEs hoping for lower borrowing costs. “A prolonged period of higher rates, alongside rising energy costs and supply chain disruption, creates a more challenging operating environment,” he said.

Theo Chatha, CFO at Bibby Financial Services, highlighted the immediate impact on internationally trading firms. “The Iran war changed expectations almost overnight. For businesses, this volatility hits margins directly through higher borrowing costs and currency swings,” he said, adding that managing foreign exchange risk is now “essential”.

What comes next?

The Bank’s next moves will depend heavily on how the geopolitical situation evolves. Policymakers outlined a range of scenarios—from a short-lived shock that could reopen the door to rate cuts later this year, to a prolonged disruption that might require a more restrictive stance.

For now, the message is one of caution. The UK economy is facing a renewed external shock just as inflation had begun to ease – leaving the Bank of England walking a narrow path between supporting growth and maintaining price stability.