Where next for interest rates?

Financial markets are predicting two or even three quarter-point rises in interest rates over the next 12 months - diverging from some economists who have suggested the outlook is far less hawkish. 

The confusing picture on rates has emerged following the start of military action by the US and Israel against Iran in February. This sent oil and energy prices higher, raising expectations for rises in inflation and interest rates this year. Central banks, like the Bank of England, will raise rates to combat inflation if they think higher borrowing costs will dampen demand in the economy and cool price rises.

Soon after the start of fighting, prices in financial markets were suggesting the Bank would raise rates within a few months and then add a second quarter-point rise by September. Instead, the Bank has kept rates at 3.75% - their level since December 2025. The Monetary Policy Committee (MPC) voted 6-3 to keep rates on hold at its latest meeting in July. 

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It appears that easing inflationary pressure in the economy is allowing the Bank to resist rate rises for now. Headline Consumer Price Index (CPI) annual inflation did rise from 2.6% to 2.9% in July, but the rise was driven primarily by energy prices which the bank has acknowledged it cannot control with higher rates. Beyond the headline figure inflation has been easing with core CPI, which is less determined by volatile commodity prices, at 2.6%. The rate of annual wage rises - a key driver of inflation - has been steadily falling this year.

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These factors have perhaps contributed to 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. 

• Read: What do rate cuts mean for markets?

The next UK interest rate decision is scheduled for 17 September 2026 followed by MPC meetings on:

• 5 November 2026
• 17 December 2026
• 4 February 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 21 August 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 21 August shows that expectations have risen to price in two but possibly three quarter-point rate rises over the next year.

Market prices suggest the indicative rate will be 4.33% in 12 months’ time. In reality, the Bank rate tends to move in quarter-per cent increments, suggesting a rise to 4.5% is the most likely outcome, although not certain.
 

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