Inflation spikes to 3.5pc as UK debt tops £3tn ahead of Budget

Consumer price inflation in the United Kingdom accelerated to 3.5 per cent in September, marking the highest level since October 2025 and exceeding economic forecasts. The Office for National Statistics reported that the consumer prices index climbed from 3.1 per cent in August, a figure that was above the 3.4 per cent predicted by analysts. This sharp increase in price growth presents significant challenges for Chancellor John Healey, who is set to deliver his maiden Budget next week. The rise in inflation is primarily attributed to soaring fuel costs resulting from the ongoing conflict in Iran, which has driven up energy prices across the economy.

The surge in energy costs has had a direct impact on household spending and government finances. Average petrol prices rose by 8.2 pence per litre in September, while diesel prices increased by 10.7 pence per litre. Both fuel types reached levels not seen since 2022, following the Russian invasion of Ukraine. Heating oil inflation climbed to 105 per cent in September, up from 65 per cent the previous month, as supply disruptions caused by the Middle East conflict led to significant price spikes. These energy cost increases added 0.2 percentage points to the overall inflation rate, according to Capital Economics. The firm warned that there are tentative signs that higher energy prices are beginning to feed through to non-energy inflation, potentially lifting consumer price inflation to a peak of approximately 4.2 per cent next year.

The fiscal position of the UK government has also deteriorated, with public sector net debt surpassing £3 trillion for the first time. Debt servicing costs rose to £10.9 billion in September, the highest total for the month since at least 1997. This increase in borrowing costs has further constrained fiscal headroom, limiting the Chancellor’s policy options. Suren Thiru, chief economist at the Institute of Chartered Accountants in England and Wales, described the situation as a perilous high-wire act for the government, noting that rising inflation increases pressure for cost-of-living support while simultaneously pushing up government borrowing costs. The shadow chancellor, Andrew Griffith, criticised the government, stating that the debt milestone and inflation rise demonstrate that the Labour administration has lost control of the economy.

The higher inflation figure has immediate consequences for business rates and welfare payments. September’s inflation data is used to determine the annual uprating of welfare benefits, with the state pension now expected to rise by almost £500 next year. In England, the figure will also drive a £1.1 billion increase in business rates for pubs, shops, offices, and other hospitality businesses from April, unless the Chancellor intervenes in the upcoming Budget. Alex Probyn of tax firm Ryan argued that the UK already has the highest property taxes of any major economy, and that further increases would leave businesses with less capital to invest in growth and job creation. The Treasury is reportedly considering raising the threshold at which small businesses pay no rates, while also examining proposals to increase property taxes for expensive office blocks and skyscrapers.

Market reactions to the data have been mixed, with the pound sterling edging up against both the US dollar and the euro. The currency rose 0.1 per cent against the dollar to $1.339 and climbed 0.1 per cent versus the euro to €1.192. Analysts suggest that the higher-than-expected inflation figures strengthen the case for the Bank of England to raise interest rates at its November meeting. Andrew Wishart, an economist at Berenberg, stated that the upside surprise to inflation, combined with resilient economic activity, means the benefits of raising rates outweigh the risks. He predicted a single 25 basis point hike, assuming energy prices fall or economic activity softens to prevent a second increase in February. The FTSE 100 index edged lower by 0.2 per cent, while the FTSE 250 fell by a similar margin, as investors weighed the implications of higher borrowing costs and rising government debt.

The housing market also shows signs of strain, with house price growth slowing in August. The typical UK house price rose by 0.9 per cent to £273,000 over the year to August, down from 1.2 per cent in the previous year. Mortgage rates have soared since the start of the Iran war, with the average five-year fixed deal standing at more than 6 per cent. Economists at PwC UK noted that the housing market remains in wait-and-see mode ahead of the Autumn Budget, with higher borrowing costs and uncertainty keeping households cautious. Mortgage approvals have fallen to their lowest level since 2023, while transactions have declined both on the month and on the year. Despite these headwinds, Chancellor Healey insisted that the British economy still has momentum, pointing to recent approvals for new gas drilling in the North Sea as evidence of continued investment and growth.