One of the unintended consequences of the recent budget is the dark cloud it has cast over the macroeconomic landscape. Bank of England Governor Andrew Bailey could not have been clearer when he said last week that the policies announced by Rachel Reeves are expected to drive up inflation, while businesses, particularly those staff-intensive service sectors, made clear the pressure they would exert. Prices will now need to be raised to soften the blow of a £25bn budget. Could the government’s own bellows fuel inflation again, also putting rate cuts at risk?

This year, consumer price inflation has fallen steadily to just 1.7 percent in September, below the rate expected by the Bank of England. The continued downward trend means the Bank did not hesitate to make its second rate cut a week ago, and it proceeded as expected with a 0.25 basis point cut, bringing the rate basic from 5 to 4.75 percent. But the course ahead has now changed and a third reduction at the end of the year has been ruled out by most market observers in the face of new inflationary pressures emerging.

There are three reasons why it now seems likely that there is a pause in the battle against inflation. The first is the risk that businesses will choose to pass on the new, higher payroll costs to consumers. Peel Hunt calculates that the combined impact of increases in the national living wage and the employer health insurance rate equates to a 10 per cent pay rise from next April, and says businesses with lower margins have more limited mitigation options.

BT, Fuller, Smith & Turner, Howdens, Sainsbury’s and JD Wetherspoon are among those who have issued stark warnings that one method of recouping the cost of increases to employers’ national insurance and the national living wage is to increase price. Their suppliers will also bear the brunt of the changes. Other options include absorbing increases and reducing margins; job cuts; and granting lower pay increases to employees – a move that could prove tricky for employers struggling to retain and attract staff. Charles Stanley’s Rob Morgan, however, predicts that we will see more price increases than falling corporate margins.

Other sectors will be affected in different ways. Panmure Liberum notes that the burden of higher NI imposed on construction companies such as Galliford Try and Costain may be passed on to government, as contracts are generally based on companies’ actual costs. In contrast, equipment rental company Babcock, which has just over £1 billion in payroll costs, has less room to maneuver. UKHospitality warned that the budget measures would increase the cost of each full-time employee in the sector by at least £2,500.

A second reason is that wage growth remains strong and although the labor market appears to have eased slightly, no one really trusts the data. The private sector’s regular wage has been cut to 4.8 percent – too high for the Bank to be sure it will fall to a less risky 2 to 3 percent year-on-year, while increases above inflation in the public sector will increase average weekly wages. estimates. They could also strengthen workers’ resolve to fight for higher wages in the private sector.

A third inflationary pressure resulting from the budget proposals is that of increased spending on hospitals and schools. The Office for Budget Responsibility says that a heavy concentration of spending at the front of the period will be inflationary not only for workers but also for materials and goods purchased. That’s one reason why the bureau revised its own inflation forecast upwards and estimates the budget will add 0.5 percent to the CPI next year.

All of this means expectations for rate cuts have changed, with previous forecasts for a 4 percent rate in the first half of next year now abandoned. Analysts suspect the US election results will also cause the Bank to be cautious given the potential for further inflationary pressures from a tariff war and a fall in the pound.

Bank of America analysts believe the budget has increased the chances that the bank will move slowly on pay cuts, and potentially stop short of what it previously hoped for. Capital Economics raised its baseline CPI forecast; in 2026, it forecasts that the CPI will be 2.2 percent, up from 2 before the budget. Pantheon Macronomics now expects the MPC to ease once a quarter rather than every meeting. Berenberg’s verdict is that “Reeves confiscated the doves’ ammunition” and the argument for a looser policy is more difficult to make. It therefore expects the bank rate to fall to a final rate of 4.25 percent in the second quarter of next year.