Major financial institutions now widely expect the UK's high interest rates to persist for much longer than previously thought.
This shift in outlook comes even as the headline inflation rate has cooled to 2.8%. While this figure seems encouraging, the Bank of England (BoE) is focused on underlying, persistent price pressures that remain stubbornly above its 2% target. The story of why rates are expected to stay high is found in the details of the economy, not the headline number.
First, the primary concern is services inflation. Prices for services like hospitality, transport, and recreation are still rising at 3.2% annually. This is significant because service prices are heavily influenced by domestic labor costs and demand, making them a better indicator of underlying inflation than goods prices, which are more affected by global supply chains. With services inflation still 1.2 percentage points above the target, the BoE has a clear reason to remain cautious.
Second, wage growth continues to apply upward pressure on prices. Average weekly earnings have been rising by 3.4%, outpacing headline inflation. This means workers have more purchasing power, which can fuel further demand and, in turn, inflation. This 'wage-price inertia' is a classic sign of embedded inflation that central banks are determined to break, even if it means holding rates higher for longer.
Third, there are signs of renewed pipeline pressures. Recent business surveys, like the S&P Global PMI, revealed that service sector companies are once again adding fuel surcharges and raising their prices at the fastest rate in three years. This is a potential 'second-round effect' of the 2026 energy shock, where higher energy costs ripple through the economy, leading to broader price increases. The BoE has explicitly warned about this risk.
Taken together, these factors explain the BoE's 'active hold' strategy since late 2025. It is not passively waiting but actively signaling its readiness to act against any re-acceleration in domestic price pressures. For now, the consensus is that the 3.75% Bank Rate will remain in place, with a rate cut firmly off the table until at least 2027.
- Headline CPI: An inflation measure that includes all goods and services in an economy. It is not adjusted for seasonality or for the often-volatile prices of food and energy.
- Services Inflation: The rate of price increases for services, such as haircuts, restaurant meals, or professional fees. It is often seen as a key indicator of domestic inflationary pressures.
- Second-round effect: An economic phenomenon where an initial price shock (e.g., higher oil prices) leads to a broader, more persistent wave of inflation as businesses raise prices and workers demand higher wages to compensate.