Bank of England holds rates at 3.75% but warns higher inflation unavoidable

The Bank of England has left interest rates unchanged at 3.75% but warned that the UK should brace for hikes later this year, as "higher inflation is unavoidable" as a result of the war in the Middle East.

The Bank's rate-setting monetary policy committee (MPC) voted to leave borrowing costs on hold on Thursday, with its nine-member committee split 8-1 in their decision. Only chief economist Huw Pill voted for a rate hike to 4%.

Andrew Bailey, the central bank's governor, said: "The war in the Middle East is causing inflation to rise again this year." He added that the policymakers were monitoring the global situation and its impact on the UK economy "very closely", but that the decision to hold rates at 3.75% for now is a "reasonable place given the situation of the economy and the unpredictability of events in the Middle East".

Inflation in the UK rose to 3.3% in March, from 3% in February. Petrol and diesel prices have soared since the start of the Middle East conflict, reflecting a jump in the global oil price to above $100 a barrel.

The central bank is also worried about so-called "second round effects" such as higher wages. The Bank of England governor said: "Second round effects could arise, for example, if a rise in inflation expectations leads workers to bargain more strongly for wage increases and firms raise wages to maintain real pay for their employees, which in turn would increase their costs and could lead them to set higher prices."

The monetary policy committee has considered three scenarios for possible outcomes for the UK economy and inflation over the next three years. In the worst-case scenario C, oil prices peak at $130 a barrel and remain at this level for a prolonged period, pushing inflation to a peak of 6.2% in the first three months of 2027. This would prompt the Bank to raise interest rates to 5.25%.

In the more benevolent scenario A, oil peaks at $108 a barrel this year before falling to below $80 at the start of 2027 and to $72 by the end of 2028. In scenario B, oil prices also peak at $108 but remain higher over a longer period.

"Given the sheer unpredictability and drawing on the evidence from scenario B, there is a good case for holding rates now," Bailey said. "But we must recognize that a prolonged spike in energy prices, as in scenario C, could lead to a higher bank rate, while also recognizing that a prompt end to the conflict and a reopening of the strait [of Hormuz] can take us to the more benign scenario, as in scenario A."

The Bank is charged with keeping UK inflation at a target of 2% in the medium term. It has lowered interest rates six times since mid-2024, and had been expected to cut again this year before the US-Israeli war on Iran began on 28 February.

Rachel Reeves, the chancellor, said: "The war in the Middle East is not our war, but it is one we have to respond to. Every choice I make will be about keeping costs down for families and businesses, without repeating the mistakes we've seen in the past that resulted in higher inflation and higher interest rates."

The European Central Bank has also kept interest rates unchanged, noting that "the upside risks to inflation and the downside risks to growth have intensified".

Matt Smith, mortgage expert at the property website Rightmove, said: "A Bank Rate hold is actually positive news today, particularly for those on a tracker mortgage, given a rate increase was on the table. It's probably the most uncertain we've been about how the Bank will vote for a while and reflects how uncertain the geopolitical landscape is right now."

Guy Gittins, chief executive of the London estate agent Foxtons, also welcomed the decision. "Following the increase in inflation to 3.3% this month, a hold on the base rate provides a welcome degree of stability for the property market," he said.