NextFin News - Bank of England Deputy Governor Sarah Breeden said on Thursday that it would be "increasingly appropriate" to respond to rising inflation risks by raising interest rates, the clearest signal yet that a policymaker inside the Bank's six-member hold majority is preparing markets for a possible rate hike as early as November. Speaking at the UK Macro Policy Forum organised by the National Institute of Economic and Social Research, Breeden warned that policymakers should not wait too long for second-round effects from high energy prices to become visible in the data — otherwise they might regret it. Her remarks came one week after a narrow 6-3 Monetary Policy Committee vote to keep Bank Rate at 3.75%, and mark a notable hardening from an official who was not ready to vote for a hike in September but now sees the balance of risks shifting.
A Hold Voter Moves Toward the Hawks
Breeden, the Bank's deputy governor for financial stability, anchored her argument in the scale and likely duration of the energy price shock driven by the re-escalated Middle East conflict. "The larger and longer the shock, the more likely it is that we'll see the material second-round effects that policy needs to respond (to)," she told the forum.
The most telling passage was her account of how her own position has evolved since the September decision. "I wasn't there in September (in terms of being ready to vote for a rate hike), but I was mindful that the balance of risks had shifted, and as risks crystallise it's increasingly appropriate for Bank Rate to respond," Breeden said. When asked about financial markets pricing in roughly 100 basis points of rate increases over the next year, she said the Bank could not ignore that pricing, though she remained focused on the next decision, due on 5 November.
"For me now, the question is: 'Do we need to do the first move?' Whether or not we need to do many more I think depends on how the economy, the shock in the economy, evolves from here."
That conditional framing — one move first, more only if the data demands it — is the escape hatch of a central bank that does not want to commit to a full hiking cycle in advance. But the direction of travel is unambiguous, and Breeden was not alone. Clare Lombardelli, the deputy governor for monetary policy, said on the same day that interest rates will likely have to rise if energy prices stay elevated, unless there is clear evidence of a weaker economy. Governor Andrew Bailey and Deputy Governor Dave Ramsden had also raised the prospect of rate increases at the previous week's meeting, though Bailey cautioned there was no "firm judgement" on what will happen to rates.
The Inflation Picture That Changed the Debate
The hawkish lean rests on a deteriorating inflation print. UK consumer price inflation accelerated to 3.1% in August, up from 2.9% in July and 1.1 percentage points above the Bank's 2% target. In his 16 September letter to the Chancellor, Governor Bailey attributed the majority of that deviation to the direct contribution of energy prices following the Middle East conflict.
The energy component carries the weight of the argument: energy inflation ran at 13.8% year-on-year in August, up from 9.8% the previous month. Yet the domestic picture is genuinely mixed, which is why the Committee remains split. Core inflation held at 2.6%. Services inflation was 3.4% in August, down from 4.5% in March, with the Governor describing the decline as broad-based. But household inflation expectations — a series the Bank watches because it feeds into wage bargaining — rose to 3.9% in August from 3.4% in July, the highest reading since May, while longer-term expectations climbed to 4.1% from 3.7%.
Inside the MPC, the division has hardened into two camps. The same three members — Megan Greene, Catherine L Mann and Huw Pill — voted to raise Bank Rate by 25 basis points to 4% at both the July and September meetings. Breeden's Thursday comments suggest she is drifting toward their camp even as she remains formally within the six-member majority that preferred to hold at 3.75%. In her written contribution to the September minutes, she wrote that "the near-term outlook for inflation has shifted significantly since July," and that "if risks to the outlook for second-round effects crystallise, it becomes increasingly appropriate for Bank Rate to respond."
Why the Bank Fears Waiting This Time
The subtext of Breeden's warning is the 2021-2022 episode, when the Bank described inflation as transitory for too long and then had to tighten at the fastest pace in a generation. The lesson learned is that by the time second-round effects show up in wages and services prices, they are far harder to break. Waiting for confirmation means arriving late.
But the current shock differs from that cycle in one important respect, and Breeden acknowledged it. Indirect energy pass-through has been weaker than expected so far, and there has been little sign yet of material second-round effects taking hold. Services inflation is falling, not rising. Wage growth is moderating. The case for patience is that the domestic disinflationary process remains intact, and that the energy spike will roll over once the geopolitical shock fades.
The counter-case, which Breeden now appears to favour, is that the scale and duration of the shock have increased, with the potential for additional global shocks related to climate, food prices and AI-driven supply constraints. "These make material second-round effects more likely, particularly if inflation approaches levels associated with non-linear effects," she wrote in the minutes. In other words, the Bank is not waiting for inflation to prove it is persistent — it is preparing to act before it does.
The Transmission Mechanism: From Oil to Wages
The channel that keeps policymakers awake is straightforward but slow. Higher oil and gas prices feed directly into the CPI through fuel and utility bills — that is the 13.8% energy print, and it is mechanical. The danger begins in the second stage: if firms pass higher energy and input costs through to consumer prices beyond the energy component, and if workers then demand higher pay to compensate for the higher cost of living, a wage-price loop forms. That is the second-round effect. Once it embeds in services inflation and wage settlements, it becomes self-sustaining and requires a much larger policy response to break.
This is why the timing of wage settlements matters. The hawkish trio on the MPC has flagged that a projected surge in inflation would peak in early 2027, just as annual wage agreements are negotiated. If workers bargain on the expectation of 4% inflation rather than the 2% target, the 2027 pay round could lock in the very persistence the Bank is trying to avoid. Acting in November, before those settlements are signed, is a pre-emptive strike at that mechanism.
The mechanism also explains why the Bank's preferred tool is the policy rate rather than its balance sheet. Quantitative tightening — the unwinding of the Bank's gilt holdings — works through term premiums and long-term yields, but the Bank estimates it has pushed gilt yields up by only around a quarter of a percentage point. The policy rate works faster on the exchange rate, on mortgage resets, and on the expectations channel that governs wage bargaining.
The Gilt Market Constraint
Any move toward tightening arrives against a bond market that has already priced stress. On 17 September, the Bank overhauled its quantitative tightening programme: it paused gilt sales for six months, halted sales of long-dated bonds entirely, and set out a multi-year plan to reduce its portfolio — now £488 billion, down from a peak of £895 billion in February 2022 — at a pace of £20 billion a year, concluding around 2034.
The decision came days after 30-year gilt yields touched their highest level since 1998, part of a global bond selloff. The 10-year gilt yield stood at 5.37% on 23 September, up 0.15 percentage points on the session, 0.31 points over the month, and 0.69 points higher than a year earlier. The QT pause was a deliberate attempt to remove one source of market pressure while the Bank fights inflation with the rate tool — an admission that financial conditions can tighten too far, too fast, and undermine the economy the Bank is trying to stabilise.
There is also a fiscal dimension. UK public sector net borrowing reached £18.3 billion in August, exceeding official forecasts and pushing the deficit for the financial year to date further above the Office for Budget Responsibility's projections. Higher rates would deepen the government's debt-servicing burden and complicate the Chancellor's first budget. The Bank insists on its operational independence, but the political economy of tightening into a fiscal hole is a real constraint on how far and how fast it can move.
The Cross-Border Divergence
Breeden's speech also framed the decision in a global context, noting that the shift in tone "could open the door to a November rate hike, following moves already made by the European Central Bank and U.S. Federal Reserve." On 16 September, the Federal Reserve raised its benchmark rate by 25 basis points to a range of 3.75%-4%, its first increase since 2023, in a unanimous 12-0 vote.
That divergence cuts both ways for the pound. A Bank of England that is perceived as behind the curve on inflation loses credibility, which is bearish for sterling. But a Bank that hikes into a stalling economy while the Fed is already tightening risks deepening the UK's growth disadvantage, which is also bearish. The pound traded at 1.3213 against the dollar on 24 September, down 0.20% on the session and having touched a two-month low earlier in the week on the borrowing data. Sterling is being pulled in opposite directions: hawkish repricing supports it, growth and fiscal worries drag on it.
Second-Order Thinking: The Self-Defeating Hike
The conventional read is linear: higher inflation risk raises the probability of a November hike, which supports the pound and pushes gilts lower. The second-order channel the market may be underweighting is that a hike into a weakening economy could prove self-defeating. Higher borrowing costs would depress output and employment; weaker demand would then pull inflation back toward target without the need for a prolonged tightening cycle. That is the trade-off Dave Ramsden has flagged in past speeches: holding policy too tight for too long carries costs to output and employment, which could then pull inflation below target.
This raises the deeper cyclical-versus-structural question at the heart of the debate. Energy prices are cyclical by nature: they spike on geopolitical shocks and mean-revert as supply and demand adjust. If this is purely a cyclical energy spike, raising rates is the wrong instrument — monetary policy cannot bring more oil to market, and it only damages demand. But if the energy shock triggers persistent second-round effects in wages and services, the problem becomes structural, and delayed action raises the terminal rate required to restore price stability. Breeden's conditional stance — "Do we need to do the first move?" — is an acknowledgment that the Bank itself has not yet resolved this question.
The Counter-Thesis: Wait for the Evidence
The strongest case against acting now comes from within the Bank's own majority. Swati Dhingra and Alan Taylor, both in the September hold camp, placed particular weight on slack in the economy moderating inflation, on evidence of restrained pass-through of costs to prices, and on the restrictive level of financial conditions. Their argument is that domestic demand is already weak enough to do the Bank's work, and that adding rate hikes on top risks an unnecessary recession.
This sceptical view has a track record worth respecting. The Bank has repeatedly overestimated the persistence of inflation pressure and underestimated the drag from tight financial conditions. Services inflation is falling. Core inflation is stable at 2.6%. The labour market has shown signs of cooling. Acting pre-emptively on second-round effects that have not yet materialised carries the mirror-image risk of the 2021-2022 error: tightening too much, too late in the cycle, and breaking something that did not need breaking.
The falsifying test is specific and observable. If core inflation and services inflation both re-accelerate over the next two releases, and if household inflation expectations climb decisively above 4% and stay there, the wait-and-see thesis breaks down and Breeden's pre-emptive stance is vindicated. Conversely, if energy inflation rolls over as the geopolitical premium fades and services inflation continues to fall toward 3%, the case for a November hike weakens materially and the hold majority holds.
What Comes Next
The next MPC decision is due on 5 November 2026, accompanied by the November Monetary Policy Report. Between now and then, three data points will decide the outcome: the October and November CPI prints, the path of energy prices, and the wage settlements that the hawks have flagged as a flashpoint for early 2027. The Bank's scenario analysis points to headline CPI peaking above 3.5% in the fourth quarter of 2026, with a worst-case trajectory reaching 4.2% in the second quarter of 2027 if energy prices keep rising; the average forecast from economists surveyed by the Treasury is for inflation of 3.3% in the final quarter of this year, easing to 2.3% by the end of 2027.
For markets, the implication is a higher floor for UK rates than the easing path priced in earlier in the year. The pound may find support if the Bank signals a genuine willingness to act, though fiscal and growth concerns cap the upside. Gilts face a crosscurrent: a rate hike is bearish for bonds, but the QT pause on long-dated sales is a tailwind for the long end — which is why the curve may steepen even as policy tightens.
The central judgment: the Bank of England has shifted from waiting for proof of persistent inflation to preparing to act before that proof arrives. That is a regime change in communication if not yet in policy. The risk is that a central bank which moved too slowly in 2021 now moves too quickly in 2026, tightening into weakness on the strength of a shock that may prove cyclical. Breeden's conditional framing — the first move first, more later only if the economy confirms it — is the escape hatch. Whether the Bank takes it depends on data that has not yet been printed, and on whether the energy spike travels the full distance from oil prices to pay packets.
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