Rachel Reeves is facing mounting pressure to ‘act now’ to shield households from a fresh energy shock, with a warning to cap bills, cut fuel duty and even lower speed limits to curb demand.
A warning from the Institute for Public Policy Research (IPPR) suggests a prolonged conflict in the Middle East could hammer the UK’s public finances to the tune of up to £8billion a year. The influential think tank said higher inflation would push up the cost of servicing government debt while squeezing tax revenues – a double hit to the Treasury.
In its most severe scenario, inflation could surge to 5.8%, far above the Bank of England’s 2% target, while economic growth could slump to just 0.3%.
The warning raises the prospect of further interest rate rises, piling pressure on mortgage holders already grappling with elevated borrowing costs.
To head off the worst effects, IPPR urged the Chancellor to introduce a package of emergency measures – including a temporary energy price cap set at £2,000, designed to kick in only in extreme circumstances.
It also called for a 10p cut to fuel duty to offset rising oil prices, alongside controversial proposals to lower speed limits to reduce fuel consumption.
The measures would be paired with steps to cut energy demand and funded through targeted tax changes, including tougher windfall taxes on energy firms.
IPPR estimates the package could cost up to £5billion a year. However, it argues the intervention could effectively pay for itself by reducing borrowing costs and protecting tax receipts.
In a best-case scenario, the think tank claims the Government could save between £6billion and £10billion annually if the policies prevent lasting damage to the economy or avoid sharper interest rate hikes.
The proposals come as ministers remain haunted by the fallout from the UK energy crisis 2022, when a vast support scheme to shield households from soaring bills cost an estimated £76billion.
William Ellis, senior economist at IPPR, said: “The UK cannot afford to sit back and let another energy shock drive up inflation and damage the economy. The UK economy and public finances are expected to take a significant hit from the Iran conflict, regardless of whether the government intervenes.
“The Bank of England is not well suited to respond, given the lag that it takes for interest rates take to influence demand. However, as the Bank set out last week, it is still likely to increase interest rates to guard against second round effects and high inflation expectations – particularly if the conflict escalates.
“The government can act now where the Bank can’t, with a well-designed policy that acts to cap prices only in the most damaging scenarios.
“At worst, this would save about as much as it costs – but if permanent damage or sharp interest rate rises are avoided, this could end up saving money.”
Sam Alvis, associate director at IPPR, said: “A well-designed intervention, that pairs capping prices with clear incentives to reduce energy demand, would not only protect living standards but prevent the need for damaging interest rate rises, and insure against the risk of more severe damage.
“This is cost-effective, and if permanent damage is avoided, this actually saves the government money. Keeping interest rates lower and investment higher prevents any damage to deploying and using clean energy, the long-term solution to crises like this.
“The lesson from Liz Truss is clear: it’s not intervention that spooks markets, it’s poor policy design and an ignorance of investors’ concerns. With the right approach, the government can act decisively and responsibly at the same time.”
A Treasury spokesperson said: “This is not our war and that is why we did not join it. Our priority is de-escalation. We are getting debt and borrowing down while supporting families and businesses through this crisis.
“Thanks to our decisions, the energy price cap has fallen by £117. We have extended the 5p fuel duty cut until September, supporting households using heating oil, boosting pay for millions, and freezing rail fares and prescription charges.”
