Oil prices tumbled below $90 a barrel yesterday after a pause in fighting between the US and Iran, though experts warn the dip may not be enough to stop a potential interest rate hike later this year.
Brent crude had been trading above $100 last week following a resumption of hostilities in the Middle East. It closed at $96.78 a barrel on Friday before dropping by as much as 9%, or 10 per cent, to $87.55. The price later settled around $89, down 2.8 per cent on the day.
The slide in crude helped ease UK borrowing costs, with ten-year bond yields falling close to 4.97 per cent after soaring to 5.1 per cent last week. Stocks were also buoyed, with London’s FTSE 100 closing up 0.4 per cent, or 45.52 points, at 10781.75.
That is the highest closing level the index has seen since the early days of the war at the start of March, according to the report. Investors appear to be interpreting the temporary ceasefire as a positive for global sentiment, despite the ongoing volatility.
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While the market has adjusted to the massive swings in pricing, the hope is that a sustained de-escalation in tensions could support a longer-term recovery. However, the conflict has already damaged growth prospects for both the current year and the next, according to Danni Hewson of broker AJ Bell.
What the pause means for the Bank of England
The moves come ahead of the Bank of England’s next interest rate-setting meeting this Thursday. Officials are expected to leave rates on hold, but they will likely have to explain how the path for rates may be affected should the on-off conflict continue.
There are fears that if the war rages on and pushes up inflation, rates will need to go up. That would hurt millions of borrowers and deliver a setback to Prime Minister Andy Burnham’s aim of addressing the cost of living.
Motorists are already feeling the pinch at the pump while energy bills have risen, putting upward pressure on inflation. The central bank will be pushed to give clues about how it will respond should the squeeze on prices continue.
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Michael Saunders, a former member of the Bank’s Monetary Policy Committee and a senior adviser at Oxford Economics, said the MPC would take ‘not very much’ confidence from the latest fall in oil prices. He told the BBC that prices are still ‘sharply up from where they were a few weeks ago’.
‘It’s unlikely they will change interest rates at this week’s meeting, but I think they will warn that if oil and gas prices stay around current levels, then inflation will go quite markedly higher in the next few months,’ Saunders said. ‘In that case, interest rates may well need to go up before the end of this year.’
The latest drop in oil prices came after Donald Trump abruptly suspended a two-week campaign of air strikes against Iran. Yesterday, the US President said Washington was ‘in very deep talks with Iran’, but that he was ready for ‘strong military action’ if diplomacy fails.
Meanwhile, Iran appeared to be putting Trump’s U-turn to the test, with Saudi Arabia, Jordan and Iraq reporting drone attacks yesterday. The situation remains fluid, and any sign of renewed hostilities could send prices soaring again, complicating the economic outlook for the remainder of the year.
