Bank of England Raises Rates to 4% for First Time Since 2023, Warns Inflation Will Near 5%

The Bank of England raised its benchmark interest rate by 25 basis points to 4.00% on Thursday, its first increase since August 2023, as the Iran war-driven energy shock pushed inflation well above target. The Monetary Policy Committee voted 8-1 in favor of the move, with Catherine Mann dissenting in favor of a larger 50 basis point hike. The outcome was more hawkish than the 7-2 split markets had expected, and notably marked the first votes for a hike by members Swati Dhingra and Alan Taylor since joining the MPC.

The Bank's central projection sees CPI inflation rising to 4.5% in the first quarter of 2027 and peaking at 4.9% in the second quarter, far above its 2% target, driven primarily by the energy price shock from the U.S.-Iran conflict. The MPC said the risk of stronger inflationary pressures had increased further since its September meeting, though it noted still limited evidence of second-round effects in wage and price setting. The government's recent budget is expected to trim CPI by 0.25 percentage points by Q2 2027 before that effect unwinds by an equal amount a year later.

Governor Andrew Bailey said the hike should not be seen as the first in a series of many, but warned it does not seem likely to be the last increase unless the Iran conflict is resolved. He added that the case for another 25 basis point hike is quite strong, and explicitly declined to endorse a two-and-done scenario. Bailey acknowledged that recent easing in crude oil prices was welcome but said there is still a great deal of inflation in the pipeline, and confirmed the MPC would have raised rates even had it known of the oil price moves in the 48 hours before the decision. Deputy Governor Dave Ramsden said inflation risks remain to the upside, while Clare Lombardelli and Chief Economist Huw Pill both cited a case for further near-term tightening.

Markets moved quickly to price in additional action, with traders adding to Bank of England rate bets and assigning roughly a 50% probability to another hike in December. Bailey also upgraded the 2026 growth forecast to 2%, up sharply from the previous projection of 1.1%, though he cautioned that just under one-fifth of that growth is attributable to AI-related activity and the expansion is not broad-based. The MPC said it will continue to monitor the propagation of the energy shock through the economy and whether policy is imparting sufficient restrictiveness.