UK Growth Forecasts: Reality Check or Continued Optimism?

The UK economy faces a significant adjustment as growth forecasts for the upcoming years have been lowered by the Office for Budget Responsibility (OBR). While the OBR has uplifted its growth expectation to 1.5% for this year — an increase from the previously estimated 1% — it has downgraded projections for the following years with anticipated growth rates of only 1.4% in 2026 and 1.5% for each subsequent year.

This downgrade stems primarily from lower productivity growth, highlighting challenges related to how much output the economy can achieve per hour worked. Despite the OBR’s acknowledgment of increased public spending over the next five years, it warns that tax rises will push revenue to record highs, potentially leading to a significant tax burden.

The Chancellor, Rachel Reeves, expressed optimism during her Budget speech, claiming that the government has previously surpassed predictions and is committed to continuous economic development: “Brick by brick we’ve been building growth…” She underscored that a thriving economy typically results in increased income for businesses and workers, leading to higher tax revenues to support public services like schools and hospitals.

However, fundamental economic drivers, as noted by KPMG Chief Economist Yael Selfin, may be influenced by factors such as new technologies, which the government is less able to control. The OBR also pointed out that prior expectations of economic rebounds following shocks from the Covid-19 pandemic and the energy crisis have failed to materialize.

Moreover, the OBR disclosed an error in the early publication of its forecasts, which disappointed the Chancellor. The report elucidated a 0.3% reduction in productivity growth, claiming this did not reflect government policies but rather a review of historical performance in context. Despite the productivity cut, rising inflation and wage increases were expected to compensate for some loss in anticipated government revenues.

In light of these economic dynamics, the Chancellor has taken measures to freeze income tax thresholds until 2028, expected to compound the number of taxpayers. Public spending is set to rise annually, with plans to reverse cuts and adjust the two-child limit in universal credit. By the end of the current parliament, the tax burden on the economy is projected to reach record levels, with an increase of £26bn forecasted by 2029-30.

The OBR estimates inflation rates to average 3.5% in the current year, a rise from earlier predictions, yet anticipates a gradual decline toward the Bank of England’s target of 2% in subsequent years, after peaking at 3.6% in October. The volatile nature of market reactions to these forecasts underscores the uncertainty facing the UK economy.