The United Kingdom entered the Iran conflict from a position of economic weakness and is now facing renewed inflationary pressure from the war, according to Megan Greene, an external member of the Bank of England’s Monetary Policy Committee (MPC).
She said the impact of the conflict is inflationary and warned that so‑called second‑round effects — how higher costs feed through wages, prices and margins — could take months to emerge, meaning the full economic fallout has yet to be seen.
Supply shocks still weighing on inflation outlook
Greene stressed that negative supply shocks remain a key driver of the Bank’s inflation outlook.
She argued that these shocks cannot be dismissed as temporary, adding that ongoing disruptions in global markets require closer scrutiny. The persistence of price pressures, she said, suggests the consequences of the conflict are still “unfolding” and challenge the assumption that earlier supply shocks have already faded.
According to Greene, even if headline inflation looks more stable in the coming months, underlying forces linked to supply constraints and geopolitical instability could keep price pressures elevated for longer than many expect.
Bank of England’s policy framework
Greene’s comments come against the backdrop of the Bank of England’s mandate to keep inflation at 2%.
To meet this target, the Bank adjusts the base lending rate, shaping borrowing costs across the economy and influencing the value of the pound. When inflation runs above 2%, the Bank typically raises interest rates to cool demand. When inflation is too weak, it usually cuts rates to encourage borrowing and spending in the private sector.
In times of severe financial stress, the Bank can also use quantitative easing, buying government and high‑quality corporate bonds from financial institutions to inject liquidity, support credit flows and underpin economic activity. This tool, however, often puts downward pressure on the currency.
Once conditions improve and inflation rises again, the Bank can move to quantitative tightening, stopping new bond purchases and allowing existing holdings to mature. That process tends to withdraw excess cash from the system and can support a stronger pound.
Energy markets echo Greene’s warning
Greene’s focus on inflationary supply shocks is being mirrored in energy markets. Brent crude futures for June delivery have traded consistently above $90 per barrel over the past week, underscoring renewed cost pressure from commodities.
This is feeding through to domestic prices. The latest figures from the Office for National Statistics show the UK Consumer Prices Index at 3.2%, still well above the Bank’s 2% target.
Rate‑cut expectations pushed back
Rising energy costs and sticky inflation have prompted markets to scale back expectations of near‑term rate cuts. Overnight index swaps now imply less than a 40% chance of a policy move before the Bank’s August meeting.
Pricing in derivatives markets suggests traders expect the MPC to keep the bank rate at 5.25% for longer, with priority given to containing price growth rather than offering early relief on borrowing costs.
Global flight to safety lifts US dollar, pressures pound
The broader global response to the Iran conflict has driven a flight to perceived haven assets. The U.S. Dollar Index (DXY) has pushed above 106 for the first time this year, reflecting strong demand for the greenback.
This dollar strength has weighed on other major currencies. The pound has fallen to a five‑month low against the US dollar, dropping below the 1.2500 level, adding another layer of complexity to the Bank of England’s inflation and policy calculations.
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