The escalating conflict in the Middle East and the effective closure of the Strait of Hormuz represent a "stagflationary" shock for the UK. Because the UK is a net importer of oil, this $108 per barrel spike creates simultaneous pressure on both the cost of production (supply side) and the purchasing power of consumers (demand side).

1. Supply-Side Effects (Cost-Push Inflation)

The supply side is primarily affected by the rising cost of essential inputs, which shifts the Short-Run Aggregate Supply (SRAS) curve to the left.

• Increased Production & Transport Costs: Since oil is a universal input, industries like manufacturing, chemicals, and agriculture face immediate cost hikes. Logistics firms (trucking and shipping) see their margins squeezed, leading them to pass these costs onto retailers.
• Imported Inflation: The UK imports a significant portion of its refined fuel. As the global price of Brent crude rises, the cost of these imports surges. Furthermore, geopolitical uncertainty often weakens the Pound Sterling (£); if the pound depreciates against the US Dollar (the currency in which oil is priced), the "real" cost to UK firms increases even further.
• Energy-Intensive Industry Contraction: Sectors like steel and glass manufacturing may become temporarily unviable at these price points, leading to reduced output or "preventative" shutdowns to avoid losses.

2. Demand-Side Effects (Reduced Spending)

The demand side is hit by a "tax-like" effect on households, reducing Aggregate Demand (AD).

• Discretionary Income Squeeze: For most UK households, petrol and heating oil are "inelastic" goods (necessities). As pump prices rise toward record levels, consumers must spend a larger share of their income on fuel, leaving less for "discretionary" spending on hospitality, retail, and leisure.
• Consumer Confidence Slump: Fears of a prolonged war and further price hikes lead to a "precautionary savings" motive. Households may delay big-ticket purchases (cars, home improvements), further slowing economic growth.
• The "Price Cap" Lag: While petrol prices hit consumers instantly, the impact on home energy bills is often delayed by the Ofgem Price Cap. However, expectations of a massive hike in the next cap period can lead to immediate belt-tightening.

The Bank of England (BoE) currently faces what economists call the "policy dilemma of stagflation." Prior to this oil shock, the narrative for 2026 was one of normalization, with the base rate having fallen to 3.75% and markets anticipating further cuts toward 3% by year-end.

The sudden spike to $108/barrel has effectively paralyzed that strategy. Here is how the Monetary Policy Committee (MPC) is likely to respond.

1. The Immediate Shift: From "Easing" to "Wait-and-See"

Before the conflict, there was an 80% market expectation of a rate cut at the upcoming March 19, 2026 meeting. Following the strikes in Iran and the Strait of Hormuz disruption, those odds have collapsed to less than 20%.

• The "Hold" Consensus: The most likely short-term response is a pause. The BoE will likely maintain the base rate at 3.75% to assess if the oil spike is a "transitory" supply shock or the start of a "second-round" inflationary spiral.
• The "Credibility" Argument: Having struggled to tame inflation in 2022-2023, the BoE is highly sensitive to its reputation. Cutting rates while oil is surging could signal that they are "soft" on inflation, potentially unanchoring inflation expectations.

2. Factors Pushing for a Rate HIKE

If oil remains above $100 or nears the $120 mark, the MPC may be forced to increase rates—a move that seemed unthinkable just a month ago.

• Preventing Wage-Price Spirals: If workers demand higher wages to combat the new "cost-of-living" squeeze, the BoE may hike rates to cool the labor market, even at the risk of causing a recession.
• Defending the Pound: A surge in oil prices often strengthens the US Dollar. If Sterling falls sharply, it makes all other UK imports more expensive. A rate hike would support the Pound and help "export" some of that inflation.

3. Factors Pushing for a Rate CUT (The Dovish View)

Some members of the MPC may argue that the oil shock is essentially a "tax on consumers" that will naturally slow the economy.

• Avoiding Over-Tightening: Since the UK economy "flatlined" in January 2026 (0% GDP growth), a rate hike could turn a slowdown into a deep recession.
• Supply vs. Demand: Monetary policy is a "blunt tool." Raising interest rates cannot reopen the Strait of Hormuz or lower the global price of crude; it only reduces domestic demand. Doves will argue that the BoE should "look through" the energy spike to avoid killing the recovery.