UK Interest Rates Remain High as Inflation Surprises Halts Deep Cuts in 2025

The anticipated decline in UK interest rates throughout 2025 did not materialise as expected. At the close of the previous year, the Bank of England held its base rate steady at 4.75 percent and projected a steady descent towards the 2 percent inflation target over the coming twelve months. Most economists foresaw at least four rate cuts, predicting a period of monetary support for the struggling economy after years of persistent inflation. The reality diverged from these expectations as the Bank implemented three reductions, setting the base rate at 4 percent ahead of its final meeting of the year.

This benchmark remains higher than the rates witnessed in comparable economies, standing above the eurozone at 2 percent, the United States at between 3.5 and 3.75 percent, Canada at 2.25 percent, and Switzerland’s zero percent. The UK’s hope for sustained monetary easing faltered in the face of a series of unanticipated inflationary pressures.

Inflation returned as a serious concern, reaching 3.8 percent in September, with food prices a particular source of volatility. The UK suffered a pronounced shock from international commodity and food costs, exacerbated by poor harvests and extreme weather globally. Food inflation rose above 5 percent by August, while core categories such as beef, butter, chocolate, and olive oil endured inflation rates averaging over 15 percent between the summers of 2024 and 2025.

This pressure on grocery bills heightened public sensitivity to inflation and increased the overall cost of living. Britain’s reliance on imports and the structure of its inflation measure left it especially vulnerable to these developments. Additionally, regulated utilities such as water, sewage, and transport experienced price increases of over 8 percent in April due to indexation, intensifying the inflationary impulse even as prices for most services remained comparatively lower.

Government policy also contributed to the inflationary environment. Increases to national insurance for employers and a significant rise in the living wage took effect in April. The Bank of England estimated that these changes would add about 0.5 percentage points to inflation due to rising wages and businesses passing costs to consumers. Surveys suggested that around 40 percent of companies anticipated reducing staff, while more than a third planned to raise prices, creating a challenging mix for policymakers.

The Bank’s monetary policy committee faced a balancing act throughout the year, caught between persistent inflation and a flagging employment market. This division is likely to continue into the final rate-setting meeting of the year. The Governor is expected to break the deadlock over whether to hold or reduce rates, with some members urging further cuts while others remain firmly opposed.

Measures planned for 2026 by the government include reductions in green levies on energy, a freeze on fuel duty, and an extension of unchanged rail fares, which are projected to reduce headline consumer price inflation only modestly. Market expectations remain muted, with financial traders anticipating at most two rate cuts in 2026, leaving the base rate settling between 3.25 and 3.5 percent. UK interest rates, which averaged 0.5 percent for the previous decade, appear set to remain elevated relative to recent history.

International comparisons highlight a global environment of persistent inflation and financial uncertainty. Bond markets have priced in higher rates across advanced economies as concerns about debt burdens and fiscal deficits grow. Moves by the Bank of England could help lower borrowing costs if the UK delivers more monetary easing than peers. Analysts believe gilts could outperform bonds from other large economies given recent fiscal policy moves, despite ongoing market scepticism.