Oil Price Surge Threatens Central Banks’ Efforts to Control Inflation
The recent surge in oil prices is posing a challenge for central banks as they try to rein in inflation and may increase the pressure to further raise interest rates. Crude oil prices have surpassed $95 a barrel, which could potentially lead to higher petrol prices at the pump and contribute to inflationary pressures.
Market speculations indicate that the upcoming inflation figures from the Office for National Statistics, to be released on Wednesday, may show a rise in the annual rate of consumer price inflation to 7% in August, up from 6.8% in July. This would be unwelcome news for Rishi Sunak, who aimed to halve inflation by the end of the year from its previous rate of 10.7%. It would also pose challenges for the Bank of England, whose mandate is to bring inflation back down to its 2% target.
The surge in oil prices can be attributed to concerns about a supply deficit following output cuts by Saudi Arabia and Russia, which have been extended until the end of the year. Brent crude, the international oil benchmark, reached a 10-month high, surpassing $95 a barrel on Tuesday and moving closer to the $100 mark.
Luke Bosdet, the AA’s spokesman on pump prices, noted that while hurricanes and tropical storms often lead to temporary oil and pump price increases, this year’s sustained surge is due to a combination of factors such as OPEC oil production cuts, exchange rates, and refinery outages. He also highlighted that drivers have already experienced a 10p-per-litre rise in petrol prices since the beginning of August.
The increase in pump prices could potentially reverse or slow down the decline in the annual rate of consumer price inflation since February, which may prompt the Bank of England to continue tightening fiscal policies by raising interest rates. The central bank is widely expected to raise rates by a quarter point to 5.5% on Thursday amid concerns about record wage growth. However, with the cooling jobs market and emerging economic weakness, markets anticipate that this week’s increase may mark the peak of the current interest rate cycle.
Economist Thomas Pugh from RSM UK believes that the easing labor market and economic weakness will likely result in no further rate hikes for the time being. Pugh expects the interest rates to remain at 5.5% until the second half of 2024 when inflation is likely to have subsided enough to allow the monetary policy committee to gradually reduce interest rates.
While core consumer price inflation, which excludes food, energy, alcohol, and tobacco, is expected to have slightly dipped in August from 6.9% to 6.8%, headline inflation in the Eurozone remains above the European Central Bank’s 2% target at 5.2%. In the United States, inflation rose to 3.7% from 3.2% due to a significant increase in energy prices.
The decline in UK inflation since its peak of 11.1% in October 2022 has primarily been driven by decreasing energy price inflation, which fell from 59% year-on-year to -7.8% in July. However, Sandra Horsfield, an economist at Investec, pointed out that rising petrol prices are acting as a counterweight to lower energy prices, potentially adding 0.4 percentage points to headline inflation in August. Additionally, the recent rise in alcohol duty and easing factory gate inflation and shipping costs may impact overall consumer prices, while food price inflation is expected to decline further.
The combination of soaring oil prices and potential increases in petrol prices poses a significant challenge for central banks aiming to control inflation. As the Bank of England looks set to raise interest rates, the outcome of their efforts to rein in inflation remains to be seen, particularly amidst an uncertain global economic backdrop.