11th September 2026
Something rather important is happening in financial markets which could eventually affect almost everyone, yet it is easy to miss among the daily headlines about the war and the rapidly rising price of oil.
Brent crude has surged to almost $110 a barrel, with the price rising nearly 13% in a week. But the oil price is only one part of the story. At the same time, government bond yields have been climbing sharply around the world, stock markets have begun falling and investors are suddenly putting much greater odds on central banks raising interest rates rather than cutting them.
That combination deserves attention.
The danger is not necessarily that the world is heading for another financial crash. It is that an oil shock could arrive at exactly the wrong time, when governments are heavily indebted, households are carrying substantial mortgages and other debts, companies need to refinance borrowing and investors have become accustomed to relatively low interest rates.
The financial markets are beginning to price in a much more difficult environment.
b][Oil is becoming an inflation problem again[/b]
Brent crude reached about $109.97 on Friday after another sharp rise, with the latest increases being driven by disruption around the Strait of Hormuz and the wider Middle East conflict. Some analysts are now warning that prices could rise considerably further if the disruption becomes prolonged.
The significance of $110 oil is not simply what motorists pay at the pump.
Oil is embedded in modern economies. It affects diesel for lorries and agricultural machinery, aviation fuel, heating oil, chemicals, plastics, manufacturing and the cost of transporting almost everything.
If a high oil price persists, the first effect is higher energy costs. The second is that businesses begin passing those costs on to customers. The third can be pressure for higher wages as workers try to compensate for rising living costs.
That is how what initially looks like a temporary energy shock can become a wider inflation problem.
And that is exactly what financial markets are now worrying about.
The bond market is sending a warning
Perhaps the most important development is happening in government bond markets.
When a government issues a bond, investors are effectively lending it money. The yield is the return investors demand for doing so.
If investors become worried about inflation, government borrowing, economic uncertainty or the future value of their money, they can demand a higher return.
That means bond yields rise and governments have to pay more to borrow.
The US 10-year Treasury yield has risen to almost 5%, while the 30-year Treasury yield has reached about 5.38%, its highest level in roughly 19 years. The rise in long-term yields is particularly significant because it feeds into mortgage rates and other long-term borrowing costs.
Britain is experiencing something similar.
The UK 10-year gilt yield has risen to around 5.4%, its highest level since 2007.
Japan is also worth watching. Its 10-year government bond yield reached 3% earlier this month, the highest level since 1996. German 10-year borrowing costs have also reached levels not seen for many years.
This is why it would be a mistake to look at the oil price in isolation.
There is a global bond-market repricing taking place.
Why are interest-rate expectations changing?
Central banks have a difficult problem.
If an economy is slowing, the normal response would be to consider cutting interest rates to encourage borrowing, investment and spending.
But what happens if inflation is rising at the same time?
An oil shock makes that problem particularly awkward because central banks cannot produce more oil. They cannot reopen the Strait of Hormuz and they cannot stop a war.
They can, however, raise interest rates.
The purpose would not be to reduce the price of oil directly. It would be to prevent the initial energy shock from spreading through the rest of the economy and becoming entrenched in wages and prices.
That is why markets have suddenly begun pricing in a greater possibility of rate rises.
In the United States, markets are currently putting roughly a 70% probability on a quarter-point Federal Reserve rate increase at the September meeting. That is a remarkable change in expectations given that investors had previously been looking towards lower rates.
Reuters reports that markets are now expecting eight of nine developed-market central banks to raise interest rates by the end of this year, including the Federal Reserve and European Central Bank.
The direction of travel therefore matters as much as the actual interest rate today.
And then there is the stock market
Share markets have begun reacting to the combination of higher oil prices and higher bond yields.
The S&P 500, Dow Jones and Nasdaq all fell on Thursday, with the S&P 500 registering its fourth consecutive daily decline. The Nasdaq, which contains many highly valued technology companies, fell 0.7%.
That does not mean a stock-market crash is underway.
Indeed, the major US indices remain substantially higher than they were at the beginning of the year.
But investors have to reconsider how much they are prepared to pay for future profits when interest rates are rising.
This is particularly relevant to technology and artificial intelligence companies.
A company expected to make enormous profits five or ten years from now can be worth a great deal today when interest rates are low. When bond yields rise substantially, those future profits are worth less in today's money.
Higher borrowing costs also make it more expensive for companies to finance expansion and refinance existing debts.
So the stock market faces a double problem.
Investors can demand a better return from relatively safe government bonds while companies simultaneously face higher financing costs.
Governments have a problem too
The bond-market story becomes particularly important when we consider the amount of debt accumulated by governments around the world.
A government does not pay the interest rate that existed when it borrowed money forever. Bonds mature and have to be refinanced.
If a government previously borrowed at a low interest rate but now has to refinance at a much higher rate, the cost of servicing its debt gradually increases.
Britain therefore faces a particularly uncomfortable situation.
Higher gilt yields increase the cost of government borrowing at precisely the time when higher energy prices could increase pressure for more government support for households and businesses.
The same applies to the United States and many other developed economies.
This creates a potential vicious circle.
Higher oil prices push inflation upwards. Inflation worries push bond yields upwards. Higher yields increase government borrowing costs. Higher borrowing costs put pressure on government finances. Governments then have less room to support households and businesses.
And if central banks respond with higher interest rates, households with mortgages and businesses with loans face another increase in their costs.
What about mortgages?
This is where something that begins in the financial markets eventually reaches ordinary households. People often think that the Bank of England alone determines mortgage rates.
It doesn't.
The Bank sets its official policy rate, but longer-term borrowing costs are also heavily influenced by the bond market and expectations about where interest rates will go in the future.
That means mortgage rates can rise even before the Bank of England actually increases Bank Rate.
For homeowners coming to the end of a fixed-rate mortgage, this matters. So does it matter to people hoping to buy a house, businesses looking for loans and anyone relying on credit.
The same process works in reverse for savers. Higher interest rates can eventually provide better returns on deposits and cash savings.
But there is usually a considerable difference between the benefits received by savers and the pain experienced by heavily indebted households.
Could this become stagflation?
This is perhaps the biggest economic question. Stagflation is the uncomfortable combination of weak economic growth and rising inflation. An oil shock can produce exactly that situation.
Consumers have to spend more on petrol, heating, transport and food, leaving them with less money for other things. Businesses face higher costs and may reduce investment or employment. Meanwhile the higher energy price itself pushes inflation upwards.
Central banks then face an unpleasant choice. If they cut rates to support the economy, they risk making inflation worse. If they raise rates to suppress inflation, they risk making an already weakening economy weaker.
There is no easy answer.
That is why the present situation is more worrying than a simple rise in the price of petrol.
There is another risk hiding in the bond market
There is a tendency to think of government bonds as the safest investment in the world. They are certainly generally considered much safer than individual shares in terms of the risk of default by major developed governments. But that does not mean their prices cannot fall.
When bond yields rise, existing bonds paying lower interest become less attractive and their market prices fall. That can create losses for investors holding long-duration bonds.
It also matters because banks, pension funds, insurance companies and investment funds all have substantial exposure to bond markets. The current sell-off therefore deserves attention even if it never develops into a financial crisis.
Could the bond market force governments to change course?
This may be one of the most important questions over the coming months. Central banks control short-term interest rates, but they do not control every interest rate in the economy. The bond market has a powerful voice.
If investors become increasingly unwilling to lend to governments at current yields, borrowing costs can continue rising regardless of what politicians would prefer.
The United States has already tried to calm its longer-term bond market through Treasury buybacks, but the latest operation did little to reassure investors. That illustrates an important point. Governments and central banks can influence financial markets. They cannot simply order markets to do what they want.
What should we watch now?
The next few weeks could be particularly important.
The oil price is obviously one indicator. If Brent stays around $110 or moves towards $120, inflation concerns will intensify. But the bond market may actually provide an earlier warning.
The US 10-year Treasury yield approaching 5% is important. The UK 10-year gilt yield around 5.4% is important. Japan's return to 3% on its 10-year bond is important. And perhaps most important of all is whether these yields continue rising even if stock markets weaken.
If that happens, investors are not simply becoming worried about shares. They are becoming worried about inflation, government borrowing and the future path of interest rates. That would represent a much more fundamental change.
This does not mean another financial crash is inevitable It is important not to overstate the situation. Markets can reverse surprisingly quickly. A ceasefire or improvement in the Middle East could send oil prices sharply lower. Inflation data could turn out to be less worrying than expected. Central banks could decide that an energy-driven increase in inflation is temporary and avoid further rate rises.
There is also considerable strength in parts of the global economy. So nobody should interpret the current bond and stock-market moves as proof that a financial crisis is inevitable. But neither should they be ignored.
The unusual feature of the present situation is the number of pressures arriving together. Oil is rising. Bond yields are rising. Inflation expectations are rising. Stock markets are weakening. Government borrowing is already enormous and markets are beginning to contemplate higher interest rates rather than the lower rates that many investors had expected.
Why this matters in Caithness and the Highlands
For people in Caithness and the Highlands, this may initially seem like something happening on Wall Street or in the City of London.
It isn't.
Higher oil prices feed directly into heating oil, diesel, transport and the cost of getting goods into the north. Higher interest rates affect mortgages, business loans and the cost of financing new developments.
They also matter to Highland Council and other public bodies because the cost of borrowing influences the economics of major capital programmes.
And if inflation remains high, the pressure on household budgets does not disappear simply because the Bank of England wants inflation to fall.
There is therefore a much bigger story developing behind the daily movement in the price of a barrel of oil. The world has spent many years becoming accustomed to relatively cheap money. The bond market is now asking whether that era is coming to an end.
If it is, the consequences could reach considerably further than the petrol station forecourt. The most important question may not be whether oil reaches $120. It may be what happens to the world's interest rates if it does.