The chancellors calculator is working overtime this morning. Iran's latest adventure in the Strait of Hormuz has sent Brent crude above $95 a barrel, and the gilt market is already pricing in the fallout. For a government that borrowed £100 billion more than it planned last fiscal year, this is the last thing Rachel Reeves needed.
Let's be clear: the UK is more exposed than most to energy price spikes. We import roughly 15% of our gas from Qatar, but the global LNG market is a single pool. When Asian buyers panic-bid for cargoes, British households feel the pinch. The Resolution Foundation calculates that every $10 rise in oil prices adds 0.3 percentage points to UK CPI. With inflation stuck above 5% in April's data, the Bank of England will be watching this like a hawk.
But the real worry is what this does to confidence. The FTSE 250 fell 2% in early trade, led by airlines and consumer stocks. Sterling is nursing losses against the dollar, and the yield on 10-year gilts has spiked 15 basis points to 4.25%. That is a direct tax on the Treasury's borrowing costs. Reeves has already used her fiscal headroom; the OBR's March forecast assumed oil at $80. If prices stay elevated, the £12 billion buffer evaporates by autumn.
So what can the Treasury do? First, they will dust off the old standby of a 'windfall tax' on energy producers. But Shell and BP can just redirect investment to the Gulf of Mexico, and the tax receipts from a falling North Sea are already dwindling. Second, they could issue more index-linked gilts, but that would lock in expensive real yields for decades. Third, and most likely, they will quietly let the Budget deficit widen and hope the political heat falls on the Bank to cut rates. That is a dangerous game: it invites capital flight.
Remember the 1976 IMF crisis? That started with an oil shock. This time, the UK has a floating exchange rate and a credible central bank, but the fundamental equation remains: a country that consumes more energy than it produces cannot control its own inflation destiny. The Treasury's intervention, when it comes, will be a combination of targeted household support (to avoid a winter of discontent) and subtle pressure on the Bank to look through the spike. But markets are not sentimental. They will test Reeves's commitment to fiscal discipline. The bottom line: UK plc is paying for this crisis in higher borrowing costs, weaker sterling, and a slower path to net zero. The only question is how much worse it gets.
