A sharp slowdown in UK wage growth has complicated the Bank of England’s deliberations, but the Iran war’s energy price impact proved more decisive as the committee voted unanimously to hold rates at 3.75% on Thursday while warning of potential inflation above 3%. Official data released the same day showed wages growing more slowly in the three months to January, typically a welcome sign for the Bank’s inflation battle. However, the energy market disruption caused by the US-Israel conflict against Iran has introduced an overriding inflationary force that has shifted the policy balance.
Wage growth is typically a key leading indicator for UK inflation, as higher wages feed through to consumer prices and make it harder for the Bank to achieve its 2% target. The slowdown in wage growth observed in the latest data would normally provide comfort that inflationary pressures are easing. In the current environment, however, the energy price shock from the Iran war has eclipsed that positive signal, creating a more complex and concerning inflation picture.
Governor Andrew Bailey said the Bank was weighing the cooling wage data against the energy price risk from the conflict. He acknowledged that the domestic labour market data would normally support easing, but said the external shock required a more cautious approach. The Bank’s response was to hold and observe, waiting for clarity on how the energy price situation develops before committing to a policy direction.
Markets focused more on the hawkish energy price warnings than on the cooling wage data. UK gilt yields rose, the FTSE 100 fell, and the pound gained against the dollar as traders priced in rate hikes before year end. The divergence between domestic economic weakness and external inflation pressure creates an unusually challenging environment for both policymakers and markets.
The interaction between slowing wages and rising energy prices is particularly important for UK households. Real wages — adjusted for inflation — could come under renewed pressure if energy costs rise while wage growth remains subdued. The Bank faces the challenge of preventing that outcome from becoming embedded without choking off the economic recovery through premature tightening.
