Middle East conflict: How a rising oil price will affect petrol, inflation and interest rates

Brent crude was on track for its biggest weekly gain since the start of 2023 amid the escalating tensions and US President Joe Biden’s remarks that the US was discussing possible strikes by Israel on Iran’s oil industry. Since Iran’s missile attack on Israel on Monday, the price of a barrel of crude oil has risen by more than 10 per cent although it remains below levels seen earlier this year.

Rising oil prices are likely to feed through quite quickly to higher prices at the pumps just as motorists have been enjoying some of the lowest costs in months. That could also apply upward pressure on inflation, which the Bank of England remains concerned over as it weighs up possible further cuts in interest rates.

Derren Nathan, head of equity research at investment firm Hargreaves Lansdown, said: “Brent crude is on track to post its biggest weekly gain in nearly two years. The potential for disruption to Iranian production has been the key driver. Despite US sanctions, Iranian exports have increased to 1.7 million barrels per day this year.

“To put that in context, Opec+ nations have treble that amount in spare capacity, so unless other producing nations suffer disruption, they should be able to take up that slack. However, a more worrying scenario would be the closure of the Strait of Hormuz, a vital shipping channel between Iran and Oman which has recently carried as much as 15 million barrels per day of crude, leaving potential for a significant oil price shock if marine traffic is blocked.”

Joshua Mahony at Scope Markets added: “A resurgence in crude oil has hampered sentiment this week, with the prospect of an inflationary surge dampening the prospect for easing next year.

“While markets remain optimistic that we will see [interest rate] cuts in both November and December, [Bank of England chief economist] Huw Pill’s preference to remain restrictive in a bid to drive down underlying inflation does highlight the lack of a central dovish narrative that markets might believe exists.”

Pill has signalled that rates, which stand at 5 per cent after August’s quarter-point cut, should be cut in a “gradual” manner, amid caution over the long-term path of inflation. His comments came a day after central bank governor Andrew Bailey suggested that “more aggressive” rate cuts could be on the way.

Members of the bank’s monetary policy committee (MPC) voted to keep rates at 5 per cent at the latest vote last month, but economists are currently pricing in another reduction at next month’s meeting.

Higher interest rates have been used by UK policymakers over the past two years to help bring down inflation, which stood at an annualised rate of 2.2 per cent in August according to the latest data from the Office for National Statistics. Inflation had been stoked by rising oil prices following Russia’s invasion of Ukraine in 2022.

Milad Azar, market analyst at XTB Mena, noted: “Oil prices continue to climb, set for significant weekly gains, as concerns regarding geopolitical tensions remain. Concerns over supply disruptions could lead to higher prices if tensions escalate further. However, any success in diplomatic efforts could help alleviate these tensions and lead to lower oil prices.”

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