The outbreak of war in the Middle East at the start of March has dominated headlines, in part due to the significant volatility it has triggered in the energy market, amid fears of a major global disruption to oil supplies.
For the pound, this matters because any energy price shock will ripple through the economy, influencing inflation, consumer spending, central bank policy, bond yields and investor sentiment – all key drivers of exchange rates.
In this article, we examine what has driven the latest rise in energy prices, why it matters for FX markets, and what it could mean for the pound against both the euro and the US dollar in the weeks and months ahead.
What has caused the latest spike in energy prices?
The recent spike in energy prices follows the launch of a joint US-Israeli campaign of military strikes against Iran at the start of March, which prompted retaliatory missile and drone attacks from Tehran targeting energy infrastructure across the Gulf and effectively closing off shipping through the Strait of Hormuz, a critical maritime chokepoint responsible for a large share of global oil flows.
While most headlines have focused on the rise in oil prices, the conflict is also affecting liquefied natural gas (LNG), which can be just as, if not more, important to certain markets like the UK and Europe, which rely on gas imports to fuel around 20-30% of electricity generated.
However, the picture has already become more complicated. After initially surging on fears of a major supply shock, oil prices have begun to fall back after US President Donald Trump suggested the war could be over ‘very soon’, easing some of the panic in financial markets. Brent crude dropped back to around $90 a barrel after briefly jumping close to $120, underlining just how sensitive prices remain to shifts in the geopolitical narrative.
Why oil prices matter for currencies
Higher oil prices can pull currencies in different directions at the same time, depending on how reliant a country is on energy imports. For major oil exporters such as Canada, rising crude prices can strengthen the domestic currency because higher export revenues improve the country’s trade balance and economic outlook. In contrast, energy-importing economies like the UK and much of Europe tend to face headwinds, as rising energy prices pose major economic risks.
One of the first channels through which this pressure emerges is inflation. When energy becomes more expensive, it raises costs across the economy, from fuel to food to manufacturing. As these costs feed through to consumers, it raises inflation, which is likely to encourage central banks to tighten monetary policy to curb spending.
At the same time, higher energy prices can act as a drag on economic activity. Rising fuel and utility bills reduce households’ disposable income, while companies face higher production costs. This combination tends to suppress consumer spending and business investment, weakening economic growth and potentially making a country’s currency less attractive to investors.
Finally, if markets expect higher energy prices to push inflation back up, government bond yields often rise as investors demand more compensation for inflation risk and reassess the path of interest rates. If investors believe this rise in yields reflects anxiety about growth or public finances rather than confidence, it can weigh heavily on a currency, something Sterling has become increasingly vulnerable to in recent months.
What this means for the pound
The UK is especially sensitive to the energy price shock due to its dependence on oil and gas imports, and the economic implications could have a major impact on the pound in the coming months.
Prior to the latest jump in oil prices, the UK inflation outlook had been improving. Official data showed the UK’s consumer price index fell to 3.0% in January 2026, down from 3.4% in December 2025. At the same time, the Bank of England (BoE) kept interest rates unchanged at 3.75% in February, with a surprisingly narrow vote suggesting a March rate cut was on the table.
The sharp rise in oil and gas prices since the start of the month has dramatically altered that outlook. Surging energy costs have revived concerns about inflation, prompting markets to scale back expectations for imminent rate cuts and raising the possibility that the BoE may have to keep policy tighter for longer.
In theory, a slower pace of rate cuts could offer some support to Sterling. But when tighter monetary policy is driven by an imported energy shock rather than stronger domestic growth, the risk is that the economy slips into a stagflationary environment – where inflation remains elevated, while economic activity weakens under the weight of higher costs and interest rates.
Of course, the pound’s performance will also depend on how the energy price crisis affects its currency peers.
What could it mean for GBP/USD?
Of the two major pairings, GBP/USD looks the most vulnerable if energy prices remain elevated, as reflected in the roughly 1.3% drop in the pairing during the first week of the conflict in the Middle East.
The US dollar usually strengthens during periods of geopolitical uncertainty when investors tend to favour safe-haven assets, the appeal of which is compounded amid the current backdrop by America’s relative energy independence, which leaves the US economy less structurally vulnerable to the spike in oil prices.
Of course, if Trump’s claim that the conflict with Iran is almost over holds weight and energy prices fall back to their pre-war levels, GBP/USD stands to see the strongest recovery.
What could it mean for GBP/EUR?
The outlook for GBP/EUR is more finely balanced because the Eurozone also faces an energy challenge, although this hasn’t stopped the pound appreciating roughly 1.5% against the euro since the start of the war.
Sterling so far appears to have outperformed the euro for two key reasons, the first being the single currency’s strong inverse trading relationship with the US dollar, applying more pressure to EUR exchange rates as USD demand rises.
The second is that UK interest rates remain higher than in the Eurozone. While the European Central Bank (ECB) has maintained that its policy remains data-dependent, with Eurozone inflation currently below the bank’s 2% target, it likely has a little more tolerance for letting inflation run a little hotter, particularly if the energy price shock proves short-lived.
The impact on the pound going forward
At this stage, with events still unfolding, the most likely near-term outcome is heightened volatility for the pound as investors try to determine whether the recent surge in energy prices represents a short-lived spike or the beginning of a more sustained supply shock.
If oil prices continue to come down, the immediate inflation risk to the UK eases, which should reduce pressure on households, underpin growth and limit the rise in gilt yields. A scenario that is likely to be supportive of GBP, even if it bolsters the odds of the BoE resuming its cutting cycle later in the year.
But if the situation deteriorates again and energy prices remain elevated for longer, the risks for Sterling will become more pronounced, as the spectre of stagflation leaves the pound more vulnerable, particularly against the US dollar.
Taking steps to protect your transfers against energy volatility
The recent jump in oil prices still matters for the pound, but the market reaction to signs of possible de-escalation is a reminder that the situation remains fluid. Amid this uncertainty, volatility is currently the clearest theme.
If you’re worried about how this volatility could impact your transfers, you may want to consider your currency options or get in contact to speak with one of our friendly currency experts.
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