In a move that has sent shockwaves through Whitehall and the oil markets alike, Israeli Prime Minister Benjamin Netanyahu has ordered the military to extend control over 70% of the Gaza Strip. This is not merely a geopolitical update; it is a signal to markets that the cost of Middle Eastern risk is about to be repriced. The pound sterling, already bruised by persistent inflation and a stubbornly high gilt yield curve, now faces a fresh headwind. Capital flight, that silent assassin of fiscal credibility, will be watching closely.
The numbers tell a grim story. Israeli forces now occupy an area roughly twice the size of the city of Manchester, housing over a million Palestinians. The humanitarian cost is incalculable, but the financial cost is beginning to crystallise. Brent crude oil jumped 2.3% on the news, and gold briefly touched $2,050 an ounce. This is the classic flight to safety that central bankers dread. It tightens financial conditions without a single rate rise.
Whitehall’s concern is not just moral; it is actuarial. A regional conflagration involving Iran would choke the Strait of Hormuz, through which 20% of global oil passes. The Bank of England’s Monetary Policy Committee would then face a nightmare scenario: stagflation inflicted by supply shock. Inflation expectations, already sticky at 4.5%, would spike. The gilt market, which has been remarkably stable since the autumn Budget, would sell off. Ten-year yields, currently at 4.2%, could test 5% in a panic.
Netanyahu’s order is a strategic gamble. He is betting that a decisive military posture will force Hamas to the negotiating table. But markets are not so sure. The Israeli shekel has weakened 1.5% against the dollar since the announcement. The Tel Aviv Stock Exchange’s TA-35 index fell 0.8% in early trading. War is expensive, and the bill is coming due. Israel’s defence spending will need to rise, likely requiring higher government bond issuance. That means higher yields, and a crowding out of private investment.
For the United Kingdom, the exposure is subtle but real. The UK is a major exporter of financial services to the Middle East, and London’s property market has long been a refuge for Gulf capital. A regional war would freeze that pipeline. Meanwhile, the cost of insuring UK sovereign debt, measured by credit default swaps, has edged up 5 basis points. Not a crisis, but a warning. The Treasury will be watching the oil price like a hawk. Every 10-dollar increase in a barrel costs the average British household roughly £200 a year in petrol and heating bills.
Fiscal responsibility now demands a contingency plan. The Chancellor should be preparing to tighten spending if necessary, because the Bank of England cannot cut rates while inflation remains above target. The 70% control figure is a threshold. It is a line in the sand. If it becomes 80% or 90%, the risk premium on Middle Eastern assets will spike. And when risk premiums spike, the unloved pound often gets caught in the crossfire.
This is not a time for dovish rhetoric. It is a time for cold analysis. The bottom line is this: Netanyahu’s order has increased the probability of a region-wide conflict. Markets are repricing that risk. And the UK, with its gaping current account deficit and inflation-weary consumers, is not immune. The only question is whether Whitehall’s contingency plans are as robust as they need to be. From where I sit, they look a little thin.
