Chancellor Rachel Reeves got here to workplace in July pledging to toughen progress the primary mission of the brand new Labour authorities. Official figures on Friday underlined how far she is from attaining this ambition. 

After gaining momentum since 2023, output slipped again in September and October. The figures affirm that companies and households shied away from spending within the lead-up to a Price range that Prime Minister Sir Keir Starmer warned could be painful. 

The most recent figures are “a big disappointment”, based on Allan Monks at JPMorgan. However what are the important thing drivers behind the UK’s weak financial efficiency? 

Pre-Price range nervousness 

Reeves and Starmer made it abundantly clear their first Price range could be a tricky one, warning of the necessity to appropriate a £22bn in-year overspend inherited from Rishi Sunak’s authorities and to lift funds to repair struggling public companies. 

The prolonged interval of uncertainty earlier than October’s Price range damped confidence as companies and households awaited readability on tax and spending measures. 

“Progress suffered within the run-up to the Price range, maybe as worries about increased taxation brought on households and companies to postpone spending selections,” mentioned Andrew Wishart, economist at Capital Economics.

The UK’s poor efficiency within the second half of the yr contrasted with early 2024, when the economic system rebounded with 0.7 per cent progress within the first quarter, following a technical recession on the finish of final yr. 

The fourth quarter of the yr may additionally show weak, as companies come to phrases with the increased tax burden introduced on the Price range, added Yael Selfin, chief economist on the consultancy KPMG UK. 

Nonetheless, some economists play down the argument that the October slowdown was primarily pushed by pre-Price range jitters.

Chris Hare, economist at HSBC, mentioned the UK could also be topic to a low progress “velocity restrict” due to weak productiveness. Annual UK productiveness progress has averaged solely 0.5 per cent over the previous 15 years, he famous. “If that productiveness problem doesn’t get higher, the economic system will solely be capable to develop so quick.”

Financial institution of England warning

The Financial institution of England has trimmed rates of interest twice this yr, bringing them to 4.75 per cent, however the burden of excessive borrowing prices is constant to take its toll on the economic system. 

Current evaluation from the BoE confirmed that about half of mortgage holders, or 4.4mn households, should refinance their house loans on to increased charges as soon as their fastened offers expire within the subsequent three years.

The BoE is anticipated to depart rates of interest unchanged subsequent week, earlier than trimming them once more within the new yr.  

It has been reluctant to chop extra aggressively given persistently excessive companies inflation. Economists polled by Reuters count on official figures subsequent week to indicate companies worth progress of 5.1 per cent in November, in contrast with 5 per cent in October.

Uncertainty over how the Price range improve in employer nationwide insurance coverage contributions will play out can be hampering BoE decision-making.

A survey printed on Friday by the BoE confirmed that customers now count on inflation of three per cent within the yr forward, up from 2.7 per cent when the query was final requested in August. This can add to the financial institution’s reluctance to hurry by way of additional price cuts.

Some economists argue that indicators of a weakening jobs market imply the BoE just isn’t being aggressive sufficient in decreasing charges.

“A mixture of lingering inflationary aversion, alongside the precise sample across the companies inflation information, add to the danger coverage stays cautious for longer than it ought to,” mentioned Ben Nabarro, UK economist at Citigroup, in a notice this week. 

Poor client confidence

Whereas inflation has subsided since highs exceeding 11 per cent in 2022 and actual incomes have been rising for greater than a yr, considerations about the price of residing are nonetheless restraining progress. 

Family financial savings relative to disposable revenue have elevated this yr within the UK and the Eurozone, underscoring an image of cautious shoppers. 

“There’s a threat that family financial savings charges will proceed to rise, which may act as a big drag on progress,” HSBC’s Hare mentioned. 

Output in consumer-facing industries, corresponding to bars and eating places, was nonetheless 5.3 per cent beneath its pre-pandemic ranges in October, reflecting decrease spending as family funds had been hit by elevated costs and borrowing prices.

European malaise 

The poor well being of the broader European economic system can be holding the UK again, given the EU is the nation’s greatest export market. 

The Eurozone grew by simply 0.4 per cent within the third quarter, up from 0.2 per cent within the earlier three months. 

European economies are lagging behind the US, the place the economic system is 11.4 per cent above its pre-pandemic degree, in contrast with 3 per cent within the UK and 4.6 per cent within the Eurozone. 

The danger of worsening commerce tensions within the new yr, when Donald Trump takes energy within the US, may act as an added drag on European economies. 

“A weakening export local weather amid rising world coverage uncertainties and declining enterprise confidence, exacerbated by the affect of not too long ago introduced Price range measures, raises considerations about sustaining the expansion momentum,” mentioned Hailey Low, economist on the Nationwide Institute of Financial and Social Analysis.

Murky prospects 

October’s weak GDP figures elevate questions on progress forecasts for subsequent yr. In October, the Workplace for Price range Accountability forecast progress of two per cent in 2025, up from 1.1 per cent this yr. 

Analysts are actually revising down their expectations. Economists polled by Consensus Economics on December 9 anticipated progress of 0.9 per cent this yr and 1.25 per cent in 2025. Following Friday’s information, Capital Economics downgraded its 2025 progress forecast to 1.4 per cent from 1.6 per cent.  

Even when that gloomier prognosis bears out, it nonetheless means subsequent yr shall be modestly stronger than 2024, nevertheless. That’s partly as a result of the federal government’s Price range boosted borrowing and spending, which ought to help financial exercise.

“The outlook for the UK economic system subsequent yr, relative to the G7, stays brighter,” mentioned Barret Kupelian, chief economist at PwC UK.