UK growth forecasts are being revised downward following the Bank of England’s decision to hold rates at 3.75% and warn of potential rate hikes driven by the Iran war’s energy price impact, with analysts cutting their expectations for economic expansion in response to the changed monetary and energy cost environment. The monetary policy committee voted unanimously to hold on Thursday, but its hawkish signals and energy price warnings have prompted a comprehensive reassessment of the UK’s near-term growth outlook. Officials said inflation could rise above 3% and borrowing costs might need to increase.
The growth forecast revision reflects several interconnected factors. Higher energy costs reduce household disposable income, damping consumer spending. Potential rate hikes increase the cost of mortgage and business borrowing, reducing investment and consumer confidence. Rising uncertainty about the future direction of policy creates a headwind for business planning and capital expenditure. And the international dimension of the conflict adds to the general uncertainty facing UK companies with global supply chains and export markets.
Governor Andrew Bailey acknowledged the growth implications of the changed environment but said the Bank’s primary responsibility was to its inflation mandate. He warned of rising energy costs and said the Bank would act if necessary to prevent inflation from becoming entrenched. His communication implicitly accepted that some growth cost might be necessary to achieve the Bank’s price stability objective.
Financial markets reflected the growth forecast revision. UK gilt yields rose, the FTSE 100 fell — the equity market response being most directly reflective of the revised growth outlook — and the pound strengthened against the dollar. Analysts noted that the combination of higher energy costs and potentially tighter monetary policy represented a meaningful headwind to UK growth in 2025.
For the government, downward revisions to growth forecasts have direct fiscal consequences, reducing the tax revenue assumptions that underpin the budget and potentially requiring adjustments to spending plans. The chancellor faces the challenge of managing these fiscal consequences while also providing the household support that the energy cost shock demands. The Bank’s rate decisions in the months ahead will be a key determinant of how severe the growth forecast revision ultimately proves to be.