Key facts
- UK diesel prices are expected to reach a record £2 a litre within days.
- The price of Brent crude oil was up almost 5% at $108.
- The yield on 10-year UK bonds rose to 5.39% on Thursday.
- The Bank of England expects the energy price cap to rise by as much as 24% in the new year.
- The combined impact of Russia's war-damaged refineries and the Middle East crisis has erased about a fifth of the world's diesel supplies.
The UK economy is facing significant headwinds as record-high diesel prices and surging borrowing costs put pressure on households and policymakers. The price of diesel has climbed sharply, with average prices reaching 196.28p a litre and expected to hit £2 a litre soon, driven by a combination of the war in Ukraine and the Middle East crisis, which has reduced global diesel supplies by about a fifth. Brent crude oil prices have also lurched upwards, reaching $108 a barrel.
These energy price increases are creating a growing concern for UK policymakers ahead of the upcoming budget. Treasury sources acknowledge that the jump in oil and gas prices leaves them with less financial flexibility than previously anticipated. While options for supporting consumers are being considered, they are expected to be more targeted than broad subsidies, potentially focusing on shifting green subsidies to general taxation or aiding the poorest households.
The Bank of England has warned that persistent high energy prices increase the likelihood of further interest rate rises. Chief economist Clare Lombardelli stated that elevated energy prices could lead to inflation expectations and wage bargaining adjusting, necessitating tighter monetary policy if disinflation or weaker activity is not evident. Deputy governor Sarah Breeden echoed this sentiment, noting that larger and longer energy shocks are more likely to trigger policy responses.
The prospect of higher inflation and interest rates, fueled by energy costs, is contributing to a global sell-off in government bond markets. The yield on 10-year UK gilts rose to 5.39% on Thursday, nearing a 19-year high. Analysts suggest these yield increases have significantly eroded the fiscal headroom the Chancellor had built up, potentially requiring substantial tax increases or spending cuts to meet fiscal rules.