Our economic outlook for the United Kingdom

U.K. real GDP grew 0.4% in the second quarter, driven by strength in the services sector and rising business investment. This follows a firm 0.6% print in the first quarter, though seasonal outliers have historically led to higher first-half growth compared with the second half of the year. Activity will likely soften through the rest of the year amid higher energy costs and tighter financial conditions. Nonetheless, risks to our 1.1% full-year GDP call lean to the upside given recent strength in data, including expansionary purchasing managers’ prints.

Concurrently, the labor market has shown signs of stabilization, with private payrolls flat and high-frequency surveys pointing to a modest improvement in the second half of the year. This comes after a year and a half of softness as employment adjusted to the government’s tax hikes on firm-level national insurance contributions.

For the inflation outlook, we have revised our headline CPI forecast upward, driven largely by a rise in motor fuel prices. We now see headline inflation ending the year at 3.5% and core at 2.6%. U.K. household energy bills are particularly sensitive to a recent rise in natural gas prices. Longer-term household inflation expectations remain elevated, which is likely a consequence of inflation having not sustainably fallen back to 2% since the 2022 shock triggered by the war in Ukraine.

The Bank of England announced on September 17 that it would keep the bank rate on hold at 3.75%, but the tone shifted to being hawkish, with several voters indicating they could support a rate hike if energy costs remain elevated. We have increased our year-end 2026 bank rate forecast by 25 basis points, and we foresee an additional rate hike next year that would take the bank rate to 4.25%.