British Airways owner IAG extends losses amid Middle East conflict but could in rebound?

Ordinarily, the Office for Budget Responsibility’s announcement that the UK was on track to reach its inflation targets over the years ahead would be cause for market optimism. However, the release of figures coincided with an escalation in tensions throughout the Middle East, with dire consequences for energy costs and price inflation for consumers. 

The release of the OBR’s revised forecasts, which did take tensions in the Middle East into account when lowering the outlook for the UK’s economic growth down to 1.1% in 2026 from an initial 1.4%, was quickly dismissed as obsolete by analysts given the fast flow of new developments in Iran, which has seen oil prices soar worldwide. 

The OBR had announced that it expects inflation to fall to 2.3% in 2026 before hitting the Bank of England’s (BoE’s) 2% target over the subsequent four years. 

However, with gas prices representing one of the most significant metrics in determining the overall economic health of the United Kingdom, recent pressures emerging from the Middle East threaten to undo much of the OBR’s optimistic outlook almost as soon as it was committed to paper. 

Wholesale methane prices have doubled in value in the wake of the flare up of conflict in Iran, an event that’s without precedent, even when taking the 2022 invasion of Ukraine into account. 

Energy prices to drive inflation

The inflationary impact of energy price rises are already being felt, with wholesale petrol costs up 2.3% and diesel prices climbing 7%. 

However, the more damaging influence of the Iran war on UK inflation could be felt in energy prices, owing to the level of exposure to wholesale gas prices. 

Gas prices are an integral part of the United Kingdom’s economy because it plays a key role in the entire energy sector. Rather than merely a source of heat and power, it provides flexible capacity while setting the price for all sources of electricity throughout the market. 

These cost increases within the energy sector can lead to an overall rise in household bills, diminishing consumer spending power and contributing to the return of higher inflation rates. 

Estimates suggest that household energy bills could grow by £160 a year from this summer, following the impact of the Middle East conflict pushing the UK’s gas market to a three-year high. 

This would see the typical combined household gas and electricity bill reach £1,800 a year in Great Britain as a result of the government’s July price cap changes. 

There are many different inflationary pressures that could come with a prolonged conflict in the Middle East. Along with higher energy bills, we may also see higher supply chain costs emerge as the price of transporting goods increases for businesses. 

This may also lead to a flare up of built-in inflation, which could further confound the OBR’s projections for 2% inflation by 2027. 

“Built-in inflation is when people's expectations of ongoing inflation lead to prices rising,” explains a Wealthify article on the impact of different forms of inflation on investors. “Also referred to as wage-price inflation, if workers think inflation will continue to increase the price of goods and services, they'll also expect their wages to do the same.”

“All this ends up creating, however, is a cycle where wages and prices keep going up at the same time.”

Will high inflation return to the UK? 

Following the release of the OBR’s inflation projections, David Miles, from the organisation’s budget responsibility committee, claimed that the predictions of inflation rates falling to target levels have become increasingly uncertain as a result of recent activity in the Middle East. 

Miles cites the uncertainty caused over the past few days and suggests that the future direction that inflation takes domestically has become increasingly challenging to predict with certainty. 

While the prospect of inflation returning to its highs of 11.1% in 2022 seem remote at this stage, there are tangible concerns that markets are still only pricing in the prospect of a short-term conflict in Iran. 

Should the geopolitical crisis in the Middle East last for many months or even years, energy markets could bear the brunt of the cost impact, with analysts expecting a 30% increase in the price of oil towards $100 per barrel in such a scenario.

This sharp increase could bleed into other areas of the global economy, not only pushing inflation higher but slowing economic growth. 

As a result, investors may be wise to adopt a more diversified approach to their portfolios as uncertainty lingers over future inflation rates. With the prospect of higher inflation eating into savings accounts, adopting a rich range of investments could help to deliver more resilience at a time when market uncertainty could cast doubt over equities for the months ahead. 

What’s next for inflation? 

Projections have been looking rosy for UK inflation rates in 2026 and beyond, but the flare up of conflict in the Middle East has once again sparked concerns over the damaging impact of higher energy prices and inflation dampening the spending power of consumers. 

Although a short-lived geopolitical crisis in Iran could help the economy to overcome its jitters and remain on track to reach BoE targets by 2027, a prolonged conflict is likely to drive inflation higher, running the risk of a hawkish monetary reversion by the Bank of England to stabilise the economy. 

The developments of the days and weeks ahead could be telling for the UK’s long-term battle to keep inflation low. Any further escalations in the Middle East could bring further uncertainty to domestic markets.