UK inflation could end the year higher than previously forecast, with estimates suggesting it may reach around 3% due to rising energy prices linked to escalating tensions in the Middle East. The Office for Budget Responsibility (OBR) has warned that ongoing instability, particularly involving the US, Israel and Iran, is already feeding through into global oil and gas markets, with potential knock-on effects for UK households.
Energy prices driving inflation concerns
David Miles, a senior member of the OBR, told the Commons Treasury Committee that sustained increases in energy prices could push consumer prices up by approximately one percentage point by the end of the year. This would represent a notable shift from earlier expectations, which had suggested inflation would fall closer to the Bank of England’s 2% target.
Oil prices have been volatile in recent weeks, with Brent crude settling around $100 per barrel. Meanwhile, gas prices have surged by more than 50%, intensifying concerns about wider inflationary pressures.
Miles stressed the uncertainty of the situation, noting how quickly forecasts could change. He indicated that if current price levels persist, the impact on inflation would be “material” and felt directly through higher living costs. The scale of change, however, remains difficult to predict given the rapidly evolving geopolitical backdrop.
Pressure on households and Government response
Rising energy costs are already filtering through to consumers. Fuel prices have increased at their fastest rate since 2022, with petrol rising by 3.5p to 135.67p per litre and diesel climbing by 6.9p to 149.01p. Reports of some petrol stations charging close to 180p per litre have prompted concern from the Government.
Chancellor Rachel Reeves has said the Government is closely monitoring the situation but has resisted calls to cancel a planned 5p increase in fuel duty scheduled for September. She pointed to the volatility in global oil markets, noting that prices can shift significantly within days.
Reeves also emphasised that the most effective way to ease pressure on household finances would be to de-escalate the conflict in the Middle East. In the meantime, she has warned retailers against “price gouging” and is meeting with fuel suppliers to address pricing concerns.
Despite earlier progress in bringing inflation down from its peak of 11.1% in late 2022, the current outlook is becoming more uncertain. Inflation had already been running at around 3%, with expectations it would ease further this year. That trajectory is now at risk.
Interest rates and fiscal constraints
The prospect of persistently higher inflation is also influencing expectations around interest rates. Financial markets are increasingly sceptical that the Bank of England will proceed with rate cuts in the near term. Some analysts now suggest that rates could remain higher for longer, or even increase, adding further strain on households and businesses.
At the same time, the Government’s ability to intervene is constrained. Miles highlighted the limited fiscal headroom available under current borrowing rules, estimated at around £23 billion. This is significantly lower than the approximately £50bn cost of the energy price guarantee introduced during the last major energy crisis following Russia’s invasion of Ukraine.
While current energy price rises are less severe than those seen four years ago, the comparison underlines the challenge facing policymakers. Providing meaningful support to households on a similar scale would be difficult without breaching fiscal targets.
For now, the outlook remains highly uncertain. Much will depend on how the geopolitical situation evolves and whether energy markets stabilise. What is clear, however, is that renewed pressure on inflation could complicate the UK’s economic recovery and prolong the cost-of-living challenges facing households.
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