UK growth upgraded but energy prices and rates to bite in 2027

According to the latest report by the International Monetary Fund (IMF), the UK economy is projected to experience stronger growth than previously anticipated this year. However, the report also indicates that increased energy prices and interest rates may hinder growth in 2027.

The IMF's updated forecasts reveal an anticipated expansion of 1.3% for the UK economy in 2026, an increase from the 1% growth rate projected in July. This growth is expected to taper off in 2027.

Globally, economies have demonstrated a commendable resilience to the energy price shocks stemming from the US-Iran war. Nonetheless, the IMF cautioned that the broader economic repercussions of the conflict remain "highly uncertain."

Chancellor John Healey announced that the government aims to "provide some breathing space" for households through upcoming budget measures.

Healey is currently finalizing the tax and spending strategies of Andy Burnham's restructured government, with proposals set to be unveiled on 28 October.

Rising government borrowing costs have placed added pressure on the Chancellor to present plans that are viewed as fiscally responsible by the financial markets, which play a crucial role in the UK's ability to obtain funding.

Silvana Tenreyro, the IMF's Chief Economist, noted on BBC News that the UK's approach to managing its debt positions it as a leader among major G7 economies.

"The UK has already embarked on the consolidation process, distinguishing itself among G7 nations, much like India," she stated at the launch of the World Economic Outlook.

The IMF highlighted that the UK is among the few major economies set to stabilize its national debt levels. The organization projects a reduction in the UK's annual borrowing by nearly four percentage points of GDP from 2025 through 2031, a substantial decrease compared to the rest of the G7, many of which are projected to increase their deficits during this period.

Furthermore, the UK is forecasted to have the lowest annual borrowing in the G7 by 2031, alongside the longest maturity of debt, which allows for the locking in of lower interest rates for an extended duration.

When asked whether the IMF was advising the UK to further curtail borrowing, Tenreyro confirmed that the country has already initiated this process and should "stay the course."

The IMF’s leader has previously urged advanced economies worldwide to reduce borrowing and lower debt levels.

The recent reversal of prior downgrades to economic forecasts occurring at the onset of the US-Iran conflict suggests that the UK will rank as the second-fastest growing economy in the G7, alongside Germany.

Nevertheless, growth is expected to decelerate to 1.2% in 2027 due to the pressures of elevated energy prices and long-term interest rates impacting household spending and business investment.

Healey recognized that conflicts in the Middle East and Europe are "affecting people or businesses in the UK and around the globe," while affirming that "Britain's economy is exhibiting strong international resilience."

When the economy is experiencing growth, businesses typically increase investment, resulting in job creation and an overall uptick in the well-being of individuals. In contrast, stagnation or contraction can lead to adverse outcomes.

Economists have suggested that Healey may need to identify £35 billion in savings to avert cuts to public spending, while also fulfilling defense commitments in his inaugural budget.

On Tuesday, the Resolution Foundation advocated for Chancellor Healey to make necessary "repairs" to public finances, but emphasized the importance of targeted assistance for those struggling with heating costs this winter.

"The challenge of continuing to reduce borrowing must coincide with the urgent need for new cost-of-living support to assist families facing a challenging winter," the think tank expressed.

Andrew Griffith, the Conservative shadow chancellor, remarked that if Healey "opts for increased taxes" in his budget proposals, "he will be opting for slower growth, burdening working citizens."

Burnham has committed to ensuring "good growth in every postcode" as part of his strategy to provide greater control to nations and regions, although this approach has elicited criticism within his own party.

The IMF indicated that households are likely to continue facing the difficulties associated with rising prices, forecasting inflation to average 3.3% this year and to remain above the Bank of England's target of 2% in 2027 at 2.8%.

The Bank of England itself has predicted that inflation may exceed 4% at the beginning of next year, increasing the likelihood of subsequent interest rate hikes.

Healey is expected to confer with other finance ministers during the IMF's annual meeting in Bangkok, Thailand, focusing on strategies to mitigate the economic effects of the ongoing conflicts in the Middle East and Europe.

The IMF underscored that the global economy has shown a "remarkable capacity to absorb shocks," not only from the current conflict in the Middle East but also from the impacts of the Covid pandemic and Russia’s invasion of Ukraine.