IoD press release  Conflict in the Middle East is a potential game changer for inflation

“The outlook for inflation has changed markedly. The hit to global energy supply so far from events in the Middle East has been profound and the warnings from the International Energy Agency over its “unprecedented” nature are stark. But the starting point for inflation still matters here. At the outset of the Ukraine war, inflation was already almost 6% and projected to rise above 7%. Inflation is half that level now. Economic conditions are weaker too. Back then, unemployment was below 4% and private sector wage growth elevated at around 5%: they’re now 5.2% and 3.3% respectively. With a considerably weaker demand environment, the need for the Bank of England to lean against second round effects should be lesser.

“Ahead of this conflict, public sector borrowing was heading down and there’d been a welcome increase in headroom against the fiscal rules. But this shock – through its impact on inflation and government borrowing costs – could take a chunk out of that headroom. The government is right to have intervened swiftly to support households exposed to a sharp escalation in heating oil costs. And is likewise right to tread carefully in considering further economic support, that would need to be funded through either spending cuts elsewhere, or higher taxes. With the OBR already having issued a warning about UK marginal tax rates and the pace of increase in the tax burden, future support packages will need to be carefully targeted to minimise broader economic pressures.”

“The spike in energy prices resulting from the conflict in the Middle East is set to worsen cost pressures for UK businesses, which already face the highest industrial energy costs in the G7. While the upcoming British Industrial Competitiveness Scheme will help to reduce energy costs for some manufacturers, it will do nothing to bring down energy prices for the vast majority of UK businesses. More ambition is needed from the government to address the structural reasons why UK industrial energy costs are so high; its current approach of waiting for gas to be displaced such that it no longer drives electricity prices will not help businesses to weather this storm.”