With energy prices propelled by Middle East tensions, UK inflation is once again on the rise, placing renewed pressure on the Bank of England to consider tightening monetary policy.

Market consensus, as reported by Bloomberg, points to the Bank of England's Monetary Policy Committee holding the benchmark rate at 3.75% on Thursday. However, the central bank is widely expected to strike a hawkish tone, leaving the door open for a potential rate hike in November. Alongside the rate decision, the Bank will unveil its quantitative tightening plan for the coming year.

UK consumer price inflation climbed to 3.1% in August, surpassing the Bank's July projection of 2.8% and marking a notable acceleration in price pressures.

The bank faces a complex landscape. The Middle East conflict has pushed oil and gas prices higher, leading economists to forecast that inflation could approach 4% early next year. This internal price pressure is compounded by a stringent external environment, as both the European Central Bank and the US Federal Reserve have recently adopted a more hawkish stance or maintained tight policy, increasing the BoE's policy predicament.

Current market pricing suggests only a 12% probability of an immediate rate increase on Thursday. Meanwhile, expectations have already been priced in for four cumulative rate hikes by July next year, which would bring UK interest rates to 4.75%.

Voting landscape expected to mirror July, with potential expansion of the hawkish camp.

According to a Bloomberg survey, economists broadly anticipate a 6-3 vote in favour of holding rates, consistent with the July meeting outcome. Chief Economist Huw Pill, alongside external members Megan Greene and Catherine Mann, are all expected to persist with their calls for an increase, each voicing concerns that inflation could become entrenched through wage growth dynamics.

Deputy Governor Clare Lombardelli is considered more hawkish internally, yet backed the hold in July. The Bloomberg poll also revealed that three economists foresee the number of members advocating for an immediate hike potentially rising to four.

In a BBC interview, former MPC member DeAnne Julius described the likelihood of a 25-basis-point rise as "quite reasonable," citing the Middle East situation and the fact that CPI has now exceeded the 3% threshold.

Inflation outlook complicated by an energy bill surge, while economic resilience persists.

Rising energy costs are now the primary inflation risk. Bloomberg Economics estimates that if energy prices remain elevated, UK household bills could jump by 25% in January following the price cap reset, potentially pushing the inflation rate to double the 2% target. Additionally, food and airfare prices continue to exert upward pressure.

Deutsche Bank Chief UK Economist Sanjay Raja projected that December's inflation reading could approach 4%, raising questions about whether current rate levels are sufficiently restrictive. Robert Wood, Chief UK Economist at Pantheon Macroeconomics, believes the energy price spike and market pricing increase the risk of a hawkish tilt in the Bank's statement language. Bank of England Governor Andrew Bailey has also signalled that the risks to inflation are tilted to the upside given the ongoing Middle East conflict.

Offsetting these concerns is an economy that is performing better than the Bank's earlier forecasts. The BoE had projected 0.3% second-quarter GDP growth in July, but official data was later revised up to 0.4%. July also saw monthly growth of 0.4%, well above the Bank's 0.1% forecast for the third quarter. This improved resilience reduces concerns about a sharp economic slowdown that would otherwise complicate the central bank's ability to maintain its tight stance.

Quantitative tightening to be scaled back to potentially GBP 50 billion annually.

Since launching quantitative tightening in February 2022, the Bank has reduced its government bond holdings through active sales and maturities. The portfolio has notably shrunk from roughly GBP 895 billion to GBP 489 billion.

Having previously targeted a GBP 70 billion reduction over the past year, market expectations are now for a further slowdown to GBP 50 billion, which would include approximately GBP 20 billion in active sales.Research from the Bank indicates that quantitative tightening has already added roughly 20 to 30 basis points to 10-year gilt yields. Reports also suggest the Bank may consider halting active sales of long-dated bonds to avoid disrupting the government's debt issuance programme.