The ongoing conflict in the Middle East, sparked by Donald Trump's Operation Epic Fury, has once again brought the global economy to its knees, with a fresh oil shock sending shockwaves through markets. This is not the first time the world has faced such turmoil, but the implications for the UK are particularly concerning. As the country grapples with the rising cost of living, the latest price shock could exacerbate existing inequalities and challenge the government's efforts to reduce household costs.
One thing that immediately stands out is the disproportionate impact on poorer communities. Recent research has identified energy, along with food and agriculture, as commodities that can significantly increase inequality when their prices rise. This is particularly true for oil, which is essential for fertiliser production and has knock-on effects for manufacturing and transport. The fact that poorer people are hit hardest by these price shocks is a stark reminder of the need for targeted policies to protect the most vulnerable.
In the UK, the impact of the Middle East conflict has already added 3p to the cost of a litre of unleaded, according to the RAC. This is a significant increase, and it raises a deeper question: how can the government ensure that the benefits of a strong economy are shared more equitably? The answer lies in a rethinking of monetary policy and a greater focus on supply-side shocks.
Central banks have traditionally been tasked with tackling economy-wide inflation, but in a volatile world, this approach is becoming less viable. Even Liz Truss, a self-proclaimed free marketeer, tacitly admitted this when she introduced the energy price cap in 2022. This policy, while surprising, highlights the need for a more statist approach to economic management.
The Bank of England's monetary policy committee, the MPC, is likely to hold off from further rate cuts due to the prospect of a fresh surge in economy-wide inflation. This could lead to a grim few months for the UK economy, with unemployment rising and young people bearing the brunt. Recent research by Joseph Evans and Carsten Jung of the Institute for Public Policy Research has highlighted the risks of running the economy 'too cold for too long', which could exacerbate existing inequalities.
The solution lies in a more adaptive approach to inflation targeting, which would allow for more leeway in times of repeated shocks. Economists at the London School of Economics' Grantham Research Institute have proposed 'adaptive inflation targeting', which would enable central banks to respond more effectively to supply-side shocks. However, this is just one part of the solution.
Politicians will increasingly have to look beyond monetary policy to secure supplies of key commodities and protect the poorest from the worst of the onslaught. In the energy sector, the long-term answer lies in transitioning away from fossil fuel markets and towards clean, homegrown power. This will take time, but it is essential for the UK's future.
As the chancellor, Rachel Reeves, prepares to give the annual Mais lecture on Labour's plans for kickstarting growth, the UK must ready itself for yet another economic shock. The world is changing rapidly, and the UK must adapt to these changes if it is to thrive in the years to come. In my opinion, the key lies in a more holistic approach to economic management, one that takes into account the needs of all citizens and the fragility of global supply chains.
