Nikka Sulton

UK inflation remained unexpectedly unchanged at 2.8% in May, strengthening market expectations that the Bank of England will keep interest rates on hold as policymakers continue to assess the economic fallout from the ongoing Middle East tensions.

Inflation holds steady despite forecasts

According to the latest data from the Office for National Statistics, inflation stayed at 2.8%, matching April’s reading and coming in below the 3% level forecast by economists surveyed by Reuters.

The ONS reported that rising petrol prices and higher airfares placed upward pressure on inflation, but these were balanced out by easing food costs and a drop in domestic heating oil prices.

Energy shocks and global tensions

The figures come against the backdrop of continued volatility in global energy markets. The conflict that began earlier in the year triggered disruption to oil and gas supplies after Iran temporarily restricted access through the Strait of Hormuz, a key shipping route.

However, recent diplomatic progress between the US and Iran to reopen the waterway has raised hopes that energy-related price pressures may begin to ease over the coming months.

Bank of England expected to hold rates

Attention is now firmly on the Bank of England’s Monetary Policy Committee, which is widely expected to keep interest rates at 3.75% at its upcoming meeting. Despite this, policymakers remain divided, with some members signalling support for a potential rate rise.

Economists suggest the softer-than-expected inflation reading gives the Bank more room to pause further tightening, with some arguing that additional rate hikes may no longer be necessary depending on how conditions evolve.

Market reaction and financial impact

Financial markets reacted cautiously to the latest inflation data. The pound saw a slight decline against the US dollar, while UK government bond yields also eased as traders adjusted expectations around future interest rate movements.

Investors have increasingly scaled back expectations of near-term rate rises, with some now anticipating that any further tightening could be pushed further into the year.

Mixed picture in underlying inflation

While headline inflation remained stable, underlying measures showed a more mixed trend. Services inflation rose to 3.7%, driven largely by fluctuations in transport-related costs. Core inflation, which excludes food and energy, also edged higher to 2.6%.

At the same time, price increases slowed across several categories, including household goods, clothing, hospitality, and leisure, suggesting that broader inflationary pressure is gradually easing.

Economic growth concerns remain

Despite stable inflation, concerns over economic growth persist. Recent data showed the UK economy contracted slightly in April, highlighting ongoing weakness in output following earlier momentum at the start of the year.

Analysts suggest that the combination of slowing growth and stabilising inflation could eventually shift the Bank of England’s focus away from rate hikes towards potential cuts later in the year, depending on how economic conditions develop.

Outlook

While inflation is expected to rise again in the coming months due to changes in regulated energy prices, the overall picture suggests a more balanced outlook than earlier in the year.

For now, policymakers remain cautious, with attention centred on energy markets, global geopolitical risks, and the broader health of the UK economy as they determine the next move on interest rates.