Want to know who will pay for this war? Look in the mirror. We all will. It’s not just the oil price and the higher cost of filling up the car. It will be everything, from paying more for heating our homes to the price of food in the supermarkets.
That’s because petrochemicals are a key ingredient for many other things, such as fertilisers. Even if hostilities do end soon, as pressure on US President Donald Trump mounts to declare a victory and retreat, the disruption will be a drag on the world economy for many months to come.
We won’t just pay higher prices; we will also pay higher interest on loans. So inflation climbs and that makes further cuts in interest rates impossible. Two weeks ago it seemed highly likely the Bank of England would cut rates at its next meeting this coming Thursday. Now the markets reckon that the chance of this happening is less than 10 per cent, and though I don’t expect it, there is a small possibility rates might go up.
Already the yield on longer-term gilts has risen sharply, with the ten-year rate climbing from about 4.3 per cent at the end of February to well over 4.8 per cent in late trading on Friday. I could see it going higher.
That increase of 0.5 percentage points matches the rise in the cost of mortgages in the past couple of weeks, with five-year fixes now sitting at beyond 5 per cent.
Don’t blame the lenders, for the yield on gilts affects the price of money for everyone, including them. If they have to pay more to fund a loan, they have to charge more for it. We may all feel that a British home-buyer is more creditworthy than His Majesty’s Government and ought accordingly to be able to borrow more cheaply, but I am afraid that is not the way the world works.
Victory?: Pressure is mounting on US President Donald Trump to declare he has won and retreat
Higher energy prices, higher inflation, higher interest rates and the prospect of higher taxes are not a great combination. They mean lower growth. There wasn’t much of that to start with, for the gross domestic product (GDP) was flat in January, and the tough question now is whether there will be any growth at all this year.
Some forecasters are suggesting there might be a recession, but that really does depend on the oil price. If it were to go to $140 a barrel and gas prices climb correspondingly, Oxford Economics calculates that inflation would go to 5.5 per cent and there would indeed be a mild recession. If it stays at about $100 a barrel, inflation is set to rise to 3.8 per cent this autumn.
To come back to the main point: one way or another, we all pay for this, mostly in the form of higher inflation. But to add some perspective here, the economic blow does not look as serious as the one we took from the war in Ukraine. We are not going to get double-digit inflation.
What is really frustrating, however, is that the UK could, with a wiser government, be so much better prepared. Instead of taxes and legislation designed to stop investment in our own oil and gas in the North Sea, we have allowed ourselves to be more dependent on imports from the Middle East. Instead of building a solid fiscal position, this government not only has no leeway to cut taxes; it plans to jack them up further.
So now it pays the highest rates of interest to fund the national debt of any large developed nation – and home-buyers pay higher mortgages as a result. By the summer, this government will have been in office for two years. There comes a stage where it really has to stop blaming its predecessor for everything and take responsibility for its actions.
There is, mercifully, one comfort. The financial markets are the adults in the room. Oil is steady at roughly $100 a barrel. That is lower than in the summer of 2022 after the invasion of Ukraine, and lower than a long period from 2011 to 2014. Inflation is also not much above its average level of the past two decades. Global equities have held up reasonably well, despite jitters over private (non-bank) lending in the US and fears the AI boom will end in a mess.
That reflects a view that big businesses are pretty good at adapting to difficult circumstances, and they deserve our respect for that.
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