The Bank of England examined a range of scenarios of what might happen to inflation and the economy depending on the Middle East conflict.
Inflation was previously expected to reach 3.5% this year.
In a worst-case scenario, where oil prices reach $100 a barrel, the Bank now projects that inflation could reach 3.2% in 2026.
In a scenario where oil prices are around $76 before falling back to $71, inflation could reach 3%.
While better than previously forecast, that remains above the Bank of England’s 2% target.
The UK economy is expected to grow by 1.1% this year, ahead of forecasts the Bank made in April.
The Bank of England is ready to raise rates, if the war in the Gulf continues to re-escalate leading to higher oil costs and, in particular, elevated gas prices as Europe refills its storage capacity ahead of winter.
But the judgement on that changes day to day, depending on the responses of the US and Iran. If, as seemed to be the case just a month ago, a ceasefire returns and holds, then energy prices could fall rapidly and raise the prospect of a rate cut.
While the Bank’s rate-setting committee voted to hold borrowing costs, three of its nine members wanted to increase the rate to 4%.
Megan Greene, one of the three who voted for a rise, said that while there was uncertainty because of the Iran war, other “risks loom” over inflation.
These include a second choke point for global energy supplies in the Red Sea – Houti rebels in Yemen recently attacked oil tankers passing through the region.
There are also new factors that the Bank is considering. Droughts around the world and the prospect of a “super El Niño” weather pattern could hike food prices.
The price of technology could also be affected by the current convulsions in the market for microchips.
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