NIESR warns UK inflation will outstrip BoE target for four years

NIESR sees UK inflation above BoE target for four years, peaking at 4.4% in 2027

The energy shock from the Iran war keeps oil prices at the heart of the UK rate outlook, making a longer inflation overshoot more likely. Every sustained rise in crude raises the risk of further second-round effects on wages. NIESR's forecast of only one more rate hike contrasts with market pricing of two or three. Its view that rates may need to reach around 5% points in the opposite direction and supports the case for gilt yields and sterling to stay sensitive to energy-led data surprises. The critique of the October budget adds fiscal credibility risk on top, which could weigh on longer-dated gilts if borrowing plans keep slipping.

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The Bank of England is not the only central bank facing challenges:

• Fed's Goolsbee calls CPI 'borderline disturbing', flags three inflation worries

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NIESR sees a longer inflation overshoot in Britain, and a BoE that may be doing less than what is required.

Summary:

• NIESR forecasts UK inflation will peak at 4.4% in February 2027, up from a 3.8% peak in its July forecast
• It sees inflation above the BoE's 2% target in 2027, 2028 and 2029, returning to target in late 2030
• It expects one more BoE hike, in February, while markets price two or three by end-2027, and says rates may need to reach around 5%
• The 2026 growth forecast is raised to 1.6% from 1.1%, slowing to 1.1% in 2027 and 0.9% in 2028
• Unemployment is seen rising to a peak of 5.1% in 2031, with wage growth averaging 3.9% over three years
• NIESR said the October budget did little to strengthen the public finances

The National Institute of Economic and Social Research (NIESR) forecast on Tuesday that UK inflation will remain above the Bank of England's 2% target for the next four years, as the energy shock from the Iran war feeds through into wages. The think-tank also raised its growth outlook.

It now expects inflation to peak at 4.4% in February 2027, compared with the 3.8% peak it forecast in July. Inflation is seen staying above target during 2027, 2028 and 2029, before returning to 2% in late 2030 — a year later than previously anticipated. Second-round effects on wages are the main reason for the delay.

On the policy front, NIESR diverges from market expectations. Investors are pricing two or three quarter-point rate hikes by the end of next year, but the think-tank expects the BoE to raise rates only once more, in February. NIESR also said rates would need to rise to around 5% to bring inflation back to target over the medium term, suggesting a single hike would not be enough to meet the goal on time. The BoE raised Bank Rate to 4% from 3.75% last week, its first increase in more than three years.

NIESR Director David Aikman said the economy had held up better than expected this year but now faces the twin pressures of higher energy prices and rising global borrowing costs. He said the policy response on both the monetary and fiscal sides is a domestic choice, and that decisions on both fronts are being put off.

On the fiscal side, NIESR said finance minister John Healey's October budget did little to strengthen the public finances. Difficult decisions on tax and spending had largely been deferred, it said, and plans to reduce borrowing lacked credibility.

Growth has been more resilient than expected. NIESR raised its 2026 forecast to 1.6% from 1.1%, citing stronger government spending and business investment, partly driven by AI. It expects growth to slow to 1.1% in 2027 and 0.9% in 2028. Unemployment is projected to edge up from 4.8% in 2026 to a peak of 5.1% in 2031, with wage growth averaging 3.9% over the next three years.

The gap between NIESR's single-hike forecast and market pricing will be tested at the BoE's next meetings, with energy prices and wage settlements the key data to watch.

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NIESR is Britain's longest-established independent economic research institute. It was founded in 1938 and is based in London. It is a non-profit charity, independent of government and political parties, and it publishes regular forecasts for the UK and global economies, which are widely watched alongside those from the Bank of England and the government's fiscal watchdog. Its director, David Aikman, joined in 2023 from the Bank of England, where he worked on financial stability.