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The governor of the Bank of England has said the bank is “tolerating temporarily above target inflation” to support the economy given the impact of the conflict in the Middle East.
Andrew Bailey, in the text of a speech he is due to deliver at the Reykjavik 2026 economic conference, said:
Given the context of softness in the real economy and uncertainty around the scale and duration of the shock, tolerating temporarily above target inflation to provide some support for the real economy is an appropriate way to approach the trade-off.
But that tolerance would weaken if signs of second-round effects begin to emerge.
Key quoted rates on mortgages have increased since the onset of the conflict. The decision to hold reflected a judgement that continued weakness in the UK activity and the labour market is likely to lessen the strength of second-round effects from higher energy prices, while recognising that these effects are likely to be stronger, the larger and more persistent is the rise in global energy prices.
…We have to monitor the situation in the Middle East and how it affects the UK economy and inflation very closely and adjust policy as required.
The UK is relatively exposed to energy shocks given its limited domestic supply and reliance on natural gas in heating and electricity generation. CPI is expected to average 3.1% over the year (from 2.1% previously) as higher commodity prices impact imports and second round pressures feed through supply chains and the wider economy.
With the ‘cost of living crisis’ still relatively fresh in consumers minds (especially as the majority of price increases never actually reversed) this will likely lead to a contraction in spending. In the short term many consumers will have benefited from an April pay rise hitting the bank accounts but this will erode as the year progresses and price increases follow a different cadence from income increases.
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