Where next for interest rates?

Interest rates were held at 3.75% in September despite markets pricing in as many as five interest rates rises over the next year.

The Bank of England’s Monetary Policy Committee (MPC) voted 6-to-3 to keep rates on hold, an outcome that was expected. That was despite headline inflation (Consumer Price Index) rising to 3.1% this week, driven higher by spiking energy prices caused by the conflict in the Middle East. The Bank can raise interest rates to a way to quell demand in the economy and potentially bring down inflation. 

The Bank’s commentary said: “UK CPI inflation increased to 3.1% in August and is likely to rise further over coming quarters. Monetary policy is being set to ensure inflation comes down to 2% sustainably as the economy adjusts to the energy shock. The policy stance required to achieve this will depend on the scale and duration of the shock and how it propagates through the economy.” 

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The wait-and-see approach is increasingly at odds with the view of financial markets, which are pricing in four or even five quarter-point rate rises over the next 12 months. Market rates have surged higher following renewed fighting in the Middle East and raised expectations of prolonged high energy prices. This would normally mean equivalent rises in the Bank Rate, but rate-setters appear to be unconvinced that current inflationary pressures will persist.

MPC members have been watching for signs that inflation caused by energy prices is translating into higher wages and ‘core’ inflation - the rate of prices rises once volatile elements like energy have been stripped out. If that begins to happen then the Bank could raise rates to prevent a spiral of higher inflation. As it is, core inflation was flat in August, despite the rise in the headline rate, and wage growth has been falling for more than a year. 

• Read: What do rate cuts mean for markets?

When fighting in the Middle East first began earlier this year, markets were predicting one or even two rate rises to have happened by now. Instead, rates have remained on hold and there is a growing sense among economists that the market is too hawkish and that fewer - if any - rates rises will materialise. For example, Berenberg, the investment bank, has suggested that the next move for rates is more likely to be downwards, predicting as many as three interest rate cuts in the next year. 

The next UK interest rate decision is scheduled for 5 November 2026 followed by MPC meetings on:

• 17 December 2026
• 4 February 2027
• 19 March 2027

How rates have changed

The path ahead for interest rates, as implied by market prices, has changed significantly following the outbreak of the conflict in the Middle East. 

The chart below shows the implied level of interest rates from 16 February 2026, just before the conflict broke out, and then the path suggested by prices recently - on 15 September 2026. This is based on market prices for government bonds with different lengths of maturity.

You can see how the path for rates on 16 February was downwards. Expectations rose significantly after fighting began and the reading for 15 September shows that expectations have risen to price in four but possibly five quarter-point rate rises over the next year.

Market prices suggest the indicative rate will be 4.87% in 12 months’ time. In reality, the Bank rate tends to move in quarter-per cent increments, suggesting a rise to 4.75% is expected with a further rise to 5% possible.
 

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