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26 Mar 2025 | EY ITEM Club comments | Media contact: James White - Senior Executive, Media Relations, Ernst & Young LLP

Spring statement leaves the big questions unanswered

• Given the narrow margin for error against the fiscal rules following the Autumn Budget, it is perhaps no surprise that the Chancellor has had to trim welfare and tweak day-to-day to spending in the Spring Statement. 
• However, today’s Spring Statement left big questions on the sustainability of the UK’s public finances unanswered, as the Government continues to have limited fiscal wiggle room.
• The Spring Statement may prove a short term stop gap ahead of a more comprehensive rethink of fiscal policy in the Autumn Budget.

Matt Swannell, Chief Economic Advisor to the EY ITEM Club, said:“Today’s Spring Statement saw the Government meet its “non-negotiable” fiscal rules, but only after implementing further spending cuts. A weaker-than-expected economy and an increase in market interest rates saw all the £9.9bn headroom left after the Autumn Budget used up. The Government announced welfare cuts and smaller day-to-day spending increases which, alongside an accounting benefit from switching foreign aid to defence spending, saw the lost headroom restored. However, the margin of error remains small by previous standards and once again risks being knocked off course by relatively normal shifts in the economy or financial markets.  

“The Spring Statement did little to shed any light on how the Government intends to answer the big questions that will shape fiscal policy over the rest of this parliament. While departmental spending totals will not be set until the middle of this year, overall day-to-day spending implies that some of the unprotected Government departments will still face challenging budgets. In the face of these challenges, the Government will have to rely quite heavily on ambitious plans for public sector efficiency gains to be able to deliver public services. But there will always be a question over the extent to which this is achievable.

“Meanwhile, a common narrative over the coming months will be the continued improvement of Europe’s defence capabilities. This might require defence spending to increase beyond the 2.5% of GDP currently pencilled into the government’s existing spending plans. Under the current framework, there’s a question as to how this would be funded, as there is unlikely to be enough headroom to meet this extra spending.

Fiscal uncertainty to persist

“The Spring Statement may prove to be a short term stop gap ahead of a more comprehensive rethink of fiscal policy in the Autumn Budget. The Government could look to re-build some headroom against its fiscal rules, but this will be challenging given the reliance of the public finances on the Office for Budget Responsibility’s (OBR) optimistic medium-term productivity growth outlook. More significant spending cuts, tax changes to those areas protected by manifesto commitments or a change to the fiscal rules could also be possibilities as the Chancellor looks to create the breathing space needed for a more stable fiscal outlook.” 

26 Mar 2025 | EY ITEM Club comments | Media contact: James White - Senior Executive, Media Relations, Ernst & Young LLP

Volatile clothing prices weighed on inflation in February

• UK Consumer Price Index (CPI) inflation fell in February following an unusually weak reading in the volatile clothing category. Inflation will likely be pushed higher from April and remain elevated through the year as substantial regulated price increases come into play and businesses gradually reflect higher labour costs in consumer prices.
• The Monetary Policy Committee (MPC) has settled into a cut-hold tempo and there was little in today's release to suggest that they are likely to deviate from this in the near-term. We expect the MPC to continue cutting at alternate meetings until at least August, when it will start to receive hard data on how the rise in employers' National Insurance Contributions (NICs) is playing out.

Matt Swannell, Chief Economic Advisor to the EY ITEM Club, said: “CPI inflation edged down to 2.8% in February, from 3% in January. The fall was primarily due to a particularly weak reading in the volatile clothing category, which the Office for National Statistics (ONS) attributed to a softer-than-usual pickup in prices after January's seasonal discounts. Meanwhile, there was little movement in the main inflation categories.

“Base effects in the services component mean headline inflation could fall slightly further in March. But this is likely to represent the calm before the storm, with several factors set to push inflation materially higher over the rest of this year. Substantial regulated price increases will take effect from April, including a significant rise in water bills and the 6.4% uptick in Ofgem's energy price cap. Meanwhile, businesses are likely to gradually pass on some of the rise in labour costs caused by increases in employers' NICs and the National Living Wage announced in the Autumn Budget, which should slow the fallback in services inflation this year.

“With February's slowdown in inflation relatively modest and driven by a notoriously volatile category, there is little in today's release that should move the needle on the monetary policy outlook. We expect rate cuts at alternate meetings to remain the norm until at least August, which is when the MPC will be able to digest evidence on both the scale of April's indexed price increases and how the NICs and National Living wage rises are playing out.”

24 Mar 2025 | EY ITEM Club comments | Media contact: James White - Senior Executive, Media Relations, Ernst & Young LLP

PMI bounces back in March

• A bounce in the March UK composite Purchasing Managers’ Index (PMI) rounded out what had previously been reported to be a weak Q1. Since the start of the year, the PMI has been on the pessimistic side, and we expect official GDP growth estimates to outperform recent survey readings, with steady but subdued growth over the course of the year.
• Last week's Bank of England meeting highlighted the uncertainty around the outlook amongst the Monetary Policy Committee (MPC) members. Today's PMI will have done little to help as it again reported a worsening jobs market that was still generating inflationary pressures.

Matt Swannell, Chief Economic Advisor to the EY ITEM Club, said: “March's flash S&P Global survey reported a bounce back in growth with a composite PMI reading of 52.0, up from 50.5 in February. Having been weak across most of Q1, the dominant services sector was reported to have recovered in March. However, the manufacturing sector saw activity decline amidst weak overseas demand and a backdrop of ongoing uncertainty around international trade policy. 

“The S&P composite PMI continues to provide a poor read on official GDP estimates. The PMI readings for Q1 appear too pessimistic, and we expect to see GDP growth pick up in the first quarter, despite January's small fall. Nonetheless, the decent start to the year could be flattered by residual seasonality in the official data. Overall, growth this year looks likely to be steady rather than spectacular as the impact of past interest rate rises, tighter fiscal policy, and geopolitical uncertainty weigh on activity.

“Today's survey won't help a cautious MPC make a definitive decision on whether weak supply or weak demand is the dominant influence on the inflation outlook. The PMI reports that firms continued to shed jobs, although to date that's not been reflected in redundancy notifications. Meanwhile, respondents indicate that they continue to raise prices substantially in the face of heightened input cost pressures, as the upcoming change in employers' National Insurance Contributions (NICs) starts to be felt. With the growth-inflation trade off continuing to pose the MPC a headache, Bank Rate will likely be lowered gradually. We expect a further cut in Bank Rate in May and for the MPC to wait until its August meeting to reassess whether cutting interest rates at every other meeting remains appropriate.”

21 Mar 2025 | EY ITEM Club comments | Media contact: James White - Senior Executive, Media Relations, Ernst & Young LLP

Government borrowing overshoots expectations in February

• The Government’s borrowing continued to disappoint in February, running even further ahead of Budget forecasts and already breaching the expected total for the full fiscal year. However, the overshoot across 2024-2025 is unlikely to have a major impact on the Office for Budget Responsibility's (OBR) medium-term fiscal forecasts.
• When the OBR's latest projections are revealed as part of next week's Spring Statement, it may show that the Chancellor has had to adjust departmental spending totals to meet her fiscal rules. But with further increases in defence spending likely to be needed, uncertainty around the future of the UK's fiscal framework is expected to linger.

Matt Swannell, Chief Economic Advisor to the EY ITEM Club, said: “The government borrowed £10.7bn in February, a little more than it did in the same month last year and well above the Office for Budget Responsibility's (OBR) Autumn forecast of £6.5bn. February's overshoot pushes year-to-date borrowing further ahead of forecast. Across 2024-2025 to date, borrowing is now running £20.4bn ahead of the OBR's October Budget projections and has already exceeded the OBR's borrowing forecast for the whole of 2024-2025.

“But this overshoot is likely to have little bearing on the OBR's medium-term fiscal forecasts published next week. Higher interest rates will have taken away around £6bn of the £9.9bn of fiscal headroom leftover in the Autumn. The big uncertainties are around how the OBR will adjust its growth and pay forecasts. But revisions would likely have opposing impacts on borrowing. 

“Swapping defence and aid spending will help to build back some breathing space. But this week's announcement of welfare reforms suggests the OBR's forecast revisions have probably forced the Chancellor to cut spending to remain compliant with the fiscal rules with a decent margin for error. This may mean the departmental spending envelope is also cut. But with a strong chance that defence spending will need to rise further, any changes to spending plans announced next week are likely to be a stop gap ahead of a more comprehensive rethink of fiscal policy in the Budget.”

20 Mar 2025 | EY ITEM Club comments | Media contact: James White - Senior Executive, Media Relations, Ernst & Young LLP

The MPC keeps its cards close to its chest

• Although there was no change in Bank Rate today, it’s another skip rather than a pause in the cutting cycle. Interest rates are still restrictive and the Monetary Policy Committee (MPC) likely still view further interest rate cuts as necessary. 
• For the most part, there appears to be little certainty among the MPC on where the economy will go from here. And it’s unlikely to have the information it needs to break from its current cut-hold tempo until at least the summer. Although the MPC gave no explicit indication, we continue to think it likely the Committee will cut interest rates again in May.

Matt Swannell, Chief Economic Advisor to the EY ITEM Club, said: “Having taken a surprisingly hawkish turn at its February meeting, it is no surprise that the majority of the MPC voted to keep Bank Rate unchanged at 4.50% at its March meeting. There remains broad agreement across the Committee that interest rates are still restrictive and will likely have to be reduced further. But there was less disagreement on the pace of interest rate cuts than expected, with only one Committee member preferring to lower Bank Rate to 4.25%. With two dovish Committee members voting for no change, it would appear that divisions among the Committee are narrowing. But this shift masks differing opinions on the outlook, as was indicated by recent remarks at the Treasury Select Committee.

“With some key policy changes just around the corner, it appears that the MPC remains uncertain around where it thinks the economy is heading. Ahead of the upcoming change in the National Living Wage and employers’ National Insurance Contributions (NICs), rate setters are waiting to see how businesses adjust headcount, pay and prices, while uncertainty around international trade policy continues to linger. Given these ongoing question marks, it seems likely that the MPC is going to proceed with caution, at least for now. 

“As the MPC continues to judge the growth and inflation trade off, they probably won’t have the data they need to break from their current pattern of cutting at every other meeting until at least the summer. So, although there was no commitment to a May cut at this meeting, we still expect interest rates to be lowered again when the MPC next meet.”

20 Mar 2025 | EY ITEM Club comments | Media contact: James White - Senior Executive, Media Relations, Ernst & Young LLP

Bank of England’s labour market challenges continue

• The UK labour market continues to present the Bank of England with a clear challenge. Pay growth is still higher than can be tolerated on a sustained basis, but the jobs market continues to move sideways.
• The latest labour market data won't do much to build conviction amongst the Monetary Policy Committee (MPC) as they continue to balance a weak economy and sticky inflation. A decision to hold Bank Rate later today seems inevitable, with the MPC unlikely to have the information it needs to break from its current cut-hold tempo until at least the summer.

Matt Swannell, Chief Economic Advisor to the EY ITEM Club, said: “Having accelerated in the final quarter of last year, pay growth has stabilised as Q4's base effects are starting to fade. Across the whole economy, headline (three-month average of the annual rate) regular pay growth was 5.9% in January, while private sector wages grew by 6.1%. Earnings growth remains well clear of the rates consistent with inflation returning to the 2% target on a sustainable basis. And while part of that reflects the shifting composition of the workforce, momentum in pay growth remains strong. Still, the Office for National Statistics' (ONS) measure of pay growth is an outlier, with all others much softer.

“The unemployment rate held steady at 4.4% over November to January, though the ongoing issues with the Labour Force Survey (LFS) mean today's outturn should be treated with a degree of caution. Other indicators suggest that the labour market is moving sideways, rather than loosening rapidly as has been indicated by some business surveys. Payroll information suggests that headcount has been broadly flat in the last few months, while the number of job openings continued to hold steady. 

“The labour market data will likely reinforce the MPC’s caution. We expect the Committee will continue to adjust policy slowly, leaving Bank Rate unchanged later today, as it gathers more information on how the changes in the National Living Wage, employers' National Insurance Contributions (NICs) and international trade policy feed through to the jobs market and inflation. For now, it seems likely the current gradual pace of interest rates cuts will continue until at least the summer, at which point the MPC will likely have more meaningful information to hand on the longer term outlook.”

14 Mar 2025 | EY ITEM Club comments | Media contact: James White - Senior Executive, Media Relations, Ernst & Young LLP

GDP fell back in January but Q1 prospects remain decent

• UK GDP fell modestly in January, with lower output in manufacturing more than offsetting an uptick in consumer-facing services activity. Given the launchpad from December's strong outturn, GDP still appears likely to grow by around 0.3% quarter-on-quarter in Q1, a step up on the second half of 2024.
• Looking further ahead, we expect the economy to continue to grow at a steady, but unspectacular pace in 2025. A less cautious mood should offer some support to consumer spending, but tighter fiscal policy, the lagged impact of past interest rate rises, and rising trade policy uncertainty will be important headwinds.

Matt Swannell, Chief Economic Advisor to the EY ITEM Club, said: “GDP fell by 0.1% month-on-month in January, after December's 0.4% gain. Most of the sectors that enjoyed a strong December saw output drop back in January, with the manufacturing sector being a notable example. This weakness was partially offset by stronger output in the consumer-facing parts of the services sector, with a rise in distribution activity founded on a significant increase in retail sales in January.

“Monthly GDP data can be noisy, and it was always likely that there would be some payback in January from December's strong reading. Today's softer reading was in line with our expectations. The launchpad from a strong expansion at the end of last year means we expect quarterly GDP growth to be around 0.3% in Q1, a step up on the pace seen in the second half of 2024.

“Looking further ahead, we think growth is likely to be relatively steady this year, running at a similar steady pace to Q1. We expect a modest pickup in consumer spending growth, with firming household confidence offsetting the drag from weaker real income growth. However, the lagged passthrough of past interest rate rises, tighter fiscal policy, and rising trade policy uncertainty are likely to prevent a stronger pickup in momentum.”

07 Mar 2025 | EY ITEM Club comments | Media contact: James White - Senior Executive, Media Relations, Ernst & Young LLP

House prices dip but conditions for gradual improvement are in place

• House prices dipped slightly in February, although the recent resilience of the housing market remains clear based on its performance over the last 12 months. There were some signs that the boost to housing demand from the upcoming change in stamp duty thresholds is starting to fade.
• As the stamp duty thresholds return to normal, there may be some temporary choppiness in the housing market. We expect to see a modest improvement in the housing market in 2025 as interest rates fall slowly but affordability challenges remain.

Matt Swannell, Chief Economic Advisor to the EY ITEM Club, said: “House prices dipped slightly in February, falling by 0.1% month-on-month. House price data can bounce around from month-to-month and today’s slight fall comes on the back of a 0.6% rise in January. The recent resilience of the housing market remains clear when considering the last twelve months, with house prices 2.9% higher than this time last year.

“Through the middle of last year, falling interest rates sparked a recovery in the housing market. However, through the turn of the year, mortgage rates rose as financial markets started to expect fewer interest rate cuts than they did in late summer. Nevertheless, even in the face of rising mortgage rates, housing demand had held up as house buyers tried to complete before the stamp duty thresholds returned to normal at the end of March. However, there were signs in February that this boost was starting to fade as the deadline moves closer.

“The near-term outlook for the housing market could prove challenging. On the one hand, with the rush to beat the upcoming stamp duty changes already starting to fade, we could see some of the recent strength in the housing market fade away further. On the other hand, this might be somewhat offset by the possibility of falls in mortgage rates, with swap rates now some way below the levels seen in late December and January. There may be some volatility over the next couple of months, but the conditions are in place to drive a modest improvement in the housing market over the rest of the year, with interest rates expected to fall slowly but housing affordability remaining stretched.”