The Effects of Higher Energy Prices
Summary
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Panellists expected conflict in the Middle East to have a larger inflationary effect this year in the UK compared to the Euro Area. The median expected inflationary impact for the UK was an increase of 0.8 to 1.1 percentage points while the Euro Area median was an increase of 0.4 to 0.7 percentage points.
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Panellists also expected the conflict to have a larger negative effect on growth this year in the UK compared to the Euro Area. Half of UK respondents thought growth this year could fall by 0.6 percentage points or more while only a quarter of Euro Area respondents thought the same.
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The panel favoured tighter monetary policy in the UK. Around half of UK respondents either agreed or strongly agreed that the Bank should maintain a tighter interest rate path, with several citing credibility as a contributing concern. Just over a quarter either disagreed or strongly disagreed, citing the auto-corrective channels of weak labour market and demand conditions. A quarter of UK respondents were uncertain as to the appropriate response.
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The panel was mixed on the appropriate ECB response. Half of Euro Area respondents agreed that the ECB should maintain a tighter interest rate path, citing the risk of second-round effects. Just under half disagreed and downplayed the risk of second-round effects. Only 7% of Euro Area respondents were uncertain as to the appropriate response.
Question 1a: How much will the conflict in the Middle East raise average headline inflation and lower average GDP growth in the UK / Euro Area in 2026, relative to a no-shock baseline?
All questions received thirty-six responses: 22 on behalf of the UK and 14 the Euro Area. The modal expectation among UK respondents was that inflation would rise by 0.8 to 1.1 percentage points this year, which was expected by around a fifth of the panel. In contrast, the modal expectation among Euro Area respondents was around half as large, with 50% expecting a rise of 0.4 to 0.7 percentage points. Around half of UK respondents thought inflation would rise by at least 1.2 percentage points this year in response to the Middle East conflict, compared to only a fifth of Euro Area respondents.
Regarding the effect on growth, the modal expectation was that GDP growth would be reduced by 0.6 to 0.8 percentage points this year in the UK, which was expected by around a third of UK respondents. Similar to the inflation expectations, the modal growth effect among the Euro Area respondents was around half as large, with two fifths expecting a reduction of 0.3 to 0.5 percentage points. Half of UK respondents thought growth this year could fall by at least 0.6 percentage points while only a quarter of Euro Area respondents thought the same.
Question 1b: How confident are you in your estimate?
No panellists for either the UK or Euro Area were “very confident” in their answers. The proportion of “highly uncertain” responses was equal across UK and Euro Area panellists, at 36% each. The proportion of “fairly confident” Euro Area respondents was marginally larger than the UK, at 21% and 14%, respectively.
UK respondents highlighted a range of factors behind their judgements on inflation and GDP in 2026, including the macroeconomic backdrop, fiscal and monetary policy responses, and uncertainty over the duration of the conflict. Angus Armstrong (UCL) expected a larger impact on growth than inflation, stating: “The pre-war economy was already fragile and lacking real momentum with a flat labour market and slightly restrictive monetary policy stance.” Roger Farmer (University of Warwick) agreed, attributing persistent GDP effects to the “the reliance of the UK on imported energy and the failure to maintain nuclear and fossil fuel alternatives.”
Summarising the uncertainties facing the UK, Stephen Millard (NIESR) stated: “There are many uncertainties here. Effects will obviously depend on how long the conflict continues and the extent to which oil and gas infrastructure is damaged while it continues. In that light, the prospect of Qatar declaring 'Force Majeure' on its long-run LNG contracts is a real worry as that could lead to much higher wholesale gas prices for a much longer period of time. The effect on inflation will also depend on the extent to which the government provides support to households and businesses.”
Euro Area respondents predominantly focused on the duration of conflict as being a key determinant of the ultimate inflation and GDP effects. Jagjit Chadha (University of Cambridge) summarised the conditions: “We just do not know that much yet about the duration or continuing escalation of this conflict. The war aims are unclear and have not been clarified by leaders in the US and Israel, who arguably have different aims. Iran is in internal turmoil with the lack of agreement amongst a shifting set of leaders about the appropriate responses. As a result global uncertainty and risk is considerably heightened.”
Question 2: Given the recent rise in energy prices and the risk of second-round effects on wages and underlying inflation, the Bank of England / ECB should not simply “look through” this shock, but should maintain a tighter policy stance than would otherwise have been appropriate
Overall, UK respondents favoured a tighter-than-otherwise policy stance. Half of UK respondents either agreed or strongly agreed that the Bank should maintain a tighter interest rate path. A quarter either disagreed or strongly disagreed. Roughly a quarter of UK respondents were uncertain as to the appropriate response.
Euro Area panellists were mixed on the appropriate ECB response. Half agreed that the ECB should maintain a tighter interest rate path. Just under half disagreed. The remaining 7% of Euro Area panellists were uncertain as to the appropriate response.
Credibility was a recurring theme among those who recommended a tighter policy stance in both the UK and Euro Area. On behalf of the UK, Thomas Sampson (LSE) argued: “Stubbornly above target inflation in the UK has already weakened confidence in the Bank of England's ability to meet its price growth mandate. A somewhat hawkish approach is now needed to regain credibility and demonstrate that the Bank is committed to low and stable inflation.” Ricardo Reis (LSE) cautioned against over-correcting, stating: “Expectations are not sufficiently well anchored for a pure look-through strategy. At the same time, it is important to not overdo the reaction to make up for mistakes of the past.”
Several of the panellists who disagreed with the statement highlighted the countervailing effects of weaker demand. Speaking on the Euro Area, Fabrizio Coricelli (Paris School of Economics) argued: “The Euro area is hit by the energy shock in conditions of slowing growth, no pressure in the labour market. The risks of second round effects are low, while higher are the risks of stagflation. The ECB should avoid tightening.” On the UK, Charles Bean (LSE) emphasised that conditions differ from the 2022 energy price shock, stating: “I am optimistic that the looser conditions in labour and product markets this time round will significantly moderate the second-round effects.”
To access the full panel responses, including the free text comments where respondents expanded on their answers, please download this MS Excel sheet.