Interest rates could rise again across the world – here’s why
The return of discussions regarding energy prices and the prospect of increased borrowing costs serves as a stark reminder that the summer break has concluded.
Rising oil prices have consistently inflated costs at the fuel pump and strained household budgets for months, while uncertainty persists regarding whether the economic fallout from the US-Iran war will further escalate the cost of living.
Pointing to the Middle East conflict and warning that inflation was “set to remain well above” its 2% target for the foreseeable future, the European Central Bank increased interest rates to 2.5% this week.
Other central banks are following suit, with the US and the UK preparing to announce interest-rate decisions in the coming week.
The US Federal Reserve is scheduled to act first on Wednesday, having maintained rates between 3.5% and 3.75% for five consecutive meetings. Its last adjustment was a rate cut back in December.
However, with inflation sitting at 3.4%—above the target—a robust jobs market, and President Donald Trump suggesting that oil prices are unlikely to drop until the Iran war concludes (which he anticipates will happen after the November elections), many on Wall Street are betting on a rate hike this month.
Newly-appointed Fed Chair Kevin Warsh has remained tight-lipped regarding the future trajectory of interest rates, but his repeated emphasis on the central bank’s commitment to curbing price increases has intensified <a the most likely policy outcome," citing remarks from Warsh and other Fed officials.
Opinions remain divided; Grace Zwemmer, a US economist at Oxford Economics, anticipates that rates will stay unchanged, though there is a near-universal consensus that a rate cut is off the table.
Trump, meanwhile, continues to push for lower rates.
“The Fed Board, with its great new leader, must get smart – BE PATRIOTS for a change,” he posted on social media last week.
The US-Iran war and the resulting surge in global oil and gas prices are fueling inflation concerns. Shipments through the Strait of Hormuz, a critical global energy route, have faced restrictions due to the conflict, pushing the price of a barrel of Brent crude to approximately $105 (£78), nearing levels seen at the start of the war.
Beyond the immediate impact on household and business expenses, elevated energy costs can inflate the price of transporting goods, with those additional costs frequently passed on to consumers through higher prices for food and other essential items.
Central banks attempt to temper price growth by raising interest rates. By increasing the cost of borrowing for products like credit cards and mortgages, they aim to dampen consumer spending and curb inflation. Higher rates can also encourage individuals to save rather than spend.
However, this remains a delicate balancing act, as higher rates may also discourage businesses from <a no sign" of the so-called second-round effects of the price shock permeating the economy, such as businesses raising prices or workers demanding wage increases.
This provides the Bank with “some breathing space,” noted economist Alexander Harvey.
Yael Selfin, chief economist at KPMG, observed that outside of the US, the economic climate in regions like the UK has been “much weaker” than it was in 2022, when the previous inflation shock hit the globe. UK inflation reached a record high of 11.1% in October of that year.
Interest rates are already higher than they were four years ago, she added, and consumers, still wary from past price spikes, have adjusted their spending habits.
Furthermore, four years ago “businesses were hiring aggressively, vacancies were at record highs, and more people were moving jobs than normal,” Harvey said, as the economy recovered from the pandemic.
“The conditions were in place for employees to push for significant pay rises in response to a significant inflation shock,” he said. “That’s in stark contrast to the current labour market.”
Hiring is now significantly weaker than average, and there is less pressure to recruit, which leaves employees with less leverage to demand higher wages.
