Economic outlook

We expect overall GDP growth to rise to 1.7% in 2025, up from 0.8% for 2024. That will be largely driven by household consumption and government spending. But, despite the pick-up in growth that will continue into 2026, there are still downside risks. These include growing geopolitical tensions.

The longer-term outlook for the UK economy is weak. Labour supply, which has been a key driving force of growth for the UK economy over the past five years, is expected to slow markedly – with net migration likely to fall in the coming years. Measures in the 2024 Autumn Budget to boost public sector investment could provide an upside for long-term growth prospects. But growth levels are unlikely to return to those seen before the financial crisis without a significant uptick in business investment.

The increase to employer National Insurance Contributions (NICs), as well as a significant increase in the level of the National Living Wage (NLW), are expected to substantially raise the costs of employing staff for UK businesses. The latest surveys show a modest deterioration in overall business confidence in the wake of the Budget as firms gauge additional costs. The combination of this with a temporary boost to overall demand could lead to a prolonged period of elevated inflation.

Our forecast has inflation hovering in the 2-3% range during 2025 and 2026, before returning to the Bank of England’s target of 2% in 2027.

In response to more persistent inflation, we expect the Bank of England to take a more cautious approach to interest rate cuts. That could take the form of three cuts in 2025, taking base rate to 4% by the end of the year.

As interest rates gradually fall, households could start to spend some of the large savings buffers they’ve built up. Relatively low unemployment and robust – if slowing – pay growth, will also boost consumer spending. We expect pay growth to outstrip inflation, boosting consumption from 1.0% in 2024 to 1.8% in 2025.

Net trade made a negative contribution to growth last year and we expect that weakness to persist this year.

The outlook for the UK’s largest trading partner, the EU, is sluggish as its economy deals with a number of headwinds to growth. The German economy is expected to rebound modestly this year. But it will continue to face structural headwinds from high energy prices. And growing trade uncertainty will likely hamper its export-dependent economy. In France, meanwhile, political uncertainty and budget disagreements have significantly hampered business sentiment.

Escalating trade frictions could become a key theme of the economic outlook in 2025 and 2026 as the incoming US administration has repeatedly signalled a willingness to use tariff measures to achieve policy goals. In our baseline scenario tariffs are used as a negotiating tactic, leading to economic uncertainty and a more volatile market. If tariffs are imposed on a permanent basis and there’s widespread retaliation, UK GDP could be 0.4% lower compared to our baseline.