The latest World Economic outlook from the International Monetary Fund (IMF) has slashed UK economic growth forecasts and heightened inflation expectations.
The UK is projected to suffer the sharpest cut to economic growth forecasts for large rich economies in the latest forecast.
The UK economy is now expected to grow by 0.8% in 2026, down from a previous projection of 1.3%, partly due to fewer interest rate cuts and the impact of higher energy prices.
Susannah Streeter, chief investment strategist at Wealth Club, said: "The IMF downgrade is a fresh blow to Chancellor Rachel Reeves and the government's elusive search for growth. The UK is set to be battered by hot oil prices, an energy bill crisis and a tightening of consumer spending. The economy was already flatlining even before war erupted in the Middle East, and now there is little means of resuscitation available given that interest rates look set to ramp up to curb inflation.
"Hopes of fresh talks to find a resolution to the conflict are providing a balm of sorts. One to two interest rate increases are now being priced into financial markets instead of the scary three to even four hikes temporarily forecast, but it’s still going to be tough going ahead if borrowing costs rise further. Plans for a big bang of home construction with 1.5 million new dwellings targeted by the government have turned into more of a whimper. Property companies have scaled back ambitions as the Middle East crisis has hurt demand, and high uncertainty lingers. The government’s latest lever to pull is a closer relationship with Europe, but a deal on accepting single market rules will take time to be agreed, so it won’t nudge growth forward any time soon. As companies batten down the hatches and try to wait for the storm to pass, investment plans are being trapped. The UK is stuck in a stagflation scenario and risks of a recession are rising fast."
Adam French, head of consumer finance at Moneyfacts, commented: “The longer the conflict in the Middle East wreaks havoc on global supply chains, the more it will damage household finances. The prospect of rates ticking upwards again will be unwelcome news for borrowers, but surging prices and nominal economic growth is financial ruinous for almost everyone. Prices in the UK have already risen by more than 28% since 2020.
“While history doesn’t always repeat, it often rhymes and a second energy shock of the decade threatens to further erode spending power and living standards in a cruel echo of 1970s style stagflation. That much-maligned decade was characterised by intense inflation which peaked at over 25%, high unemployment and industrial unrest.
“However, lessons can be learned from the past. Prioritising an emergency savings buffer is key as financial flexibility can be invaluable in uncertain times. Locking in certainty where possible, such as fixing mortgage or energy costs and avoiding variable debt can also boost financial resilience. Households should also consider stress-testing their budgets against higher living costs to identify and eliminate any unnecessary spending.”
Lindsay James, investment strategist at Quilter, added: “The IMF has delivered a severe reality check to Rachel Reeves and the rest of UK government, with economic growth forecasts slashed heavily. It now expected economic growth for this year to come in at 0.8%, down from the 1.3% growth that was forecasted at the beginning of the year. The conflict in the Middle East has effectively blown a hole open in the economic plan the Labour government was embarking on, and without a significant calming of the tensions, the UK is expected to fare the worst of the world’s developed economies.
“The government came into this year hoping it would be one of stabilisation, with Budget concerns now out of the picture and the fiscal headroom being largened. The US-Iran war, however, has blown that off course and instead resulted in the UK suffering from increased energy prices and the potential for an inflationary shock. With interest rate cuts now firmly off the cards for now, and the potential for hikes very much live, economic growth is going to be hard to come by.
“It is hoped that much of this economic shock will be short-lived, provided the conflict does not drag on. The IMF expects the UK to recover to become the fastest growing G7 European economy in 2027 with growth of 1.3%, but with inflation also expected to be the highest amongst peers, there remains risk that further revisions could be made.
“None of this, of course, is helped by the fact that the longer the conflict goes on, the greater potential there is for an economic recession. The original ceasefire agreed already appears to have broken down, and while the bombing may have calmed, tensions remain ratcheted up. Even with any resolution, things are unlikely to go back to normal and we should now have to get familiar with elevated oil and gas prices for the foreseeable future.”
