MUFG sees BoE hiking in November as UK inflation tops 4% on energy shock

An interest rate increase on November 5 would continue the energy-driven monetary tightening seen across central banks. If the Bank of England signals another move in February, sterling could get a boost, especially against currencies issued by central banks seen as less responsive. Gilts appear more vulnerable: 10-year UK yields are already at the top of the G7 range, and additional tightening combined with reduced fiscal headroom before the Budget could keep pressure on longer-term bonds. For equities, higher rates and energy costs hurt domestically oriented UK stocks, though the FTSE 100's large weighting in energy provides some cushion. Oil and gas remain the main variable: with household energy bills pushing inflation higher as expected, any additional price surge linked to the Middle East conflict would strengthen the argument for an extended tightening cycle.

Earlier

• UK September CPI inflation rises to 3.5%, reinforces BOE November rate hike expectations

MUFG says the Bank of England cannot overlook this energy shock as it might prefer, because the UK economy is too strong to make delay appear prudent.

Summary

• MUFG anticipates the Bank of England will raise rates by 25 basis points at its upcoming meeting, with a further increase in February taking the peak to 4.25%
• UK headline inflation is expected to climb above 4% in the months ahead as higher energy costs reach household bills
• Energy prices have held at elevated levels longer than anticipated and have risen further lately, according to MUFG
• A steadying jobs market, solid growth and persistent underlying inflation make it difficult for the Bank of England to tolerate the shock
• MUFG says UK Q3 GDP is running at roughly 0.65% quarter on quarter, and it projects growth of 1.5% in 2026 and 1.4% in 2027, above IMF forecasts
• Higher borrowing costs may have shrunk fiscal headroom to around £15 billion ahead of the Budget

The Bank of England is likely to lift interest rates at its next meeting as rising energy costs push UK inflation back above 4%, according to MUFG, which also forecasts an additional increase in February.

In its European macro and market outlook, MUFG said it predicts a 25 basis point increase at the Bank of England's next policy meeting on November 5, followed by another in February, lifting Bank Rate to a terminal level of 4.25%. The bank noted that energy costs have stayed high for longer than expected and have increased further in recent months. As those expenses pass through to household bills, it expects headline inflation to exceed 4%.

MUFG argued that the Bank of England will find it hard to look past the energy shock, as it otherwise might, because of the broader economic conditions. The labour market is stabilising, growth is solid and underlying inflation remains high. Services inflation measures are still comfortably above the Bank's 2% target.

The UK economy has shown notable resilience. MUFG said recent activity data have consistently surprised to the upside, and the economy does not appear to be repeating the second-half slowdowns of recent years, with third-quarter GDP tracking at about 0.65% quarter on quarter. It projects growth of 1.5% in 2026 and 1.4% in 2027, more bullish than the IMF, despite energy-related headwinds.

That growth is fairly concentrated, however, driven by professional services and other knowledge-based sectors. MUFG said it is too early to draw firm conclusions, but the UK's relatively fast adoption of artificial intelligence could help explain recent productivity gains. The share of UK job postings referencing AI has risen faster than in the US or major European economies.

The fiscal backdrop adds complications. MUFG calculates that higher borrowing costs may have cut the government's headroom against its fiscal rules to roughly £15 billion. It expects the upcoming Budget to include some offsetting tax measures alongside temporary, targeted support for households facing higher energy bills. MUFG questioned whether reducing fiscal buffers is wise while growth holds up and geopolitical uncertainty remains elevated.

The Bank of England's rate decision is scheduled for 12:00 GMT (07:00 US Eastern time) on November 5.