By William Schomberg
LONDON (Reuters) – Just when Britain seemed to be moving beyond its inflation problem, the new government’s spending splurge and the risk of a global trade war triggered by U.S. President-elect Donald Trump’s tariff plan are threatening to extend it.
British inflation peaked above 11% two years ago after the outbreak of the Ukraine war, the highest among the world’s big rich economies. It then took longer to fall than in many other countries, in part because of a shortage of workers following Britain’s exit from the European Union.
No one expects another double-digit price leap. But the Bank of England raised its inflation forecasts for the next three years after the Oct. 30 budget, which increased taxes on employers, threatening to push up prices and wages .
Trump’s election win then prompted investors to cut further their bets on BoE interest rate reductions next year.
That could pose an additional challenge to Prime Minister Keir Starmer’s promise to voters in July’s election that he will turn Britain into the fastest-growing Group of Seven economy.
“We think the UK budget and Mr. Trump’s election will boost UK inflation and rates,” consultancy Pantheon Macroeconomics told clients in a note on Thursday.
The hefty public spending increases in the budget and their expected short-term boost to growth initially prompted investors to price in three BoE rate cuts by the end of 2025, down from four previously.
As Trump announced hard-line nominations for top jobs in his administration, those bets this week dwindled to just two cuts by the end of 2025, compared with five expected from the European Central Bank for the struggling euro zone.
Under one scenario, inflation in Britain and beyond could be softened if China’s exports to the U.S. are hammered by Trump’s tariffs, lowering their price in other markets.
But if Britain and other countries are hit by tariffs too and retaliate, the damage to global supply chains could mean slower growth and faster-than-expected inflation.
RISK FOR CENTRAL BANKS
Rob Wood, chief UK economist at Pantheon, said the BoE, like other central banks, was only just getting inflation under control and would not be able to dismiss the impact of trade tariffs as a one-off, given still strong growth in wages.
“They can’t risk saying this is a transitory shock and we’re going to look through it. It means slower cuts to interest rates than there would have been,” he said.
Wood expects UK inflation to rise to 3% in the third quarter of 2025, above the BoE’s forecast of 2.8%.