The mercury is rising and so are the costs. Portugal recorded its hottest May day in history yesterday as a brutal heatwave sweeps across the continent. The Met Office now warns that the scorching temperatures are set to march northward, threatening to decimate British harvests. For markets, this is not just a weather event. It is a supply shock, a test of fiscal resilience, and a reminder that inflation does not take holidays.
The Portuguese town of Mora hit 47 degrees Celsius. Eighty-seven fire crews battled to contain wildfires in the Algarve. Meanwhile, the UK’s agricultural sector stares down the barrel of a ruined growing season. Wheat, barley and oilseed rape are particularly vulnerable. The Met Office has issued a stark warning: without significant rainfall in the next fortnight, crop yields could fall by 20 percent. That would drive up bread prices, feed costs, and ultimately household bills.
The timing could not be worse. The Bank of England is already grappling with stubborn core inflation. A failed harvest would add food price pressures to an already overheated economy. The gilt market is jittery. Ten-year yields have crept back towards 4.5 percent as investors price in the risk of persistent inflation. Fixed-income traders are watching the soil moisture index as closely as the Consumer Prices Index.
Capital flight is another concern. As southern Europe bakes, institutional investors are reassessing their exposure to the region. Agricultural commodities funds are seeing inflows. The wheat futures curve has gone into backwardation, a clear signal of immediate supply anxiety. The smart money is betting on volatility.
The government’s response will be crucial. Any talk of subsidies or bailouts for farmers will be met with scorn by fiscal hawks. We have seen this playbook before: a weather shock triggers production shortfalls, prices spike, and the Treasury writes cheques. That is not fiscal discipline. It is moral hazard. The age of cheap money is over. Central banks must hold the line, even if the fields are parched.
For the British consumer, the outlook is grim. The average household already spends 11 percent of income on food. A drought-driven spike could push that figure higher, squeezing discretionary spending and hitting GDP. The hospitality sector will feel the pain too. Higher ingredient costs mean either thinner margins or pricier menus. Neither is palatable in an election year.
The broader economic picture is equally troubling. Heatwaves are becoming more frequent and more intense. This is not a one-off. It is a structural shift. The insurance sector is repricing risk. Reinsurers are pulling capacity from southern Europe. That will trickle down to higher premiums for farmers, property owners and governments. The cost of climate adaptation is finally being priced into the market. And it is not cheap.
Policymakers must resist the urge to intervene with cheap credit. The market will find its equilibrium. Higher prices will incentivise conservation, investment in drought-resistant crops, and innovation in irrigation. Government handouts only delay the inevitable adjustment. Let prices speak. Let capital flow. The British economy is resilient, but only if we let it adjust.
So watch the thermometer and the bond yield. They are telling the same story: the bill for this heatwave will be high, and it will be paid by consumers, investors and taxpayers. The only question is how quickly we accept the new reality.
Alastair Thorne
Chief Financial Editor
