• We don’t place too much direct weight on the UK’s weak May GDP figure. These numbers are volatile and a slowdown was always likely after the fast start to the year. On a 3m/3m basis the picture actually looks better after a sizeable upward revision to earlier data. Following that we are now tracking Q2 GDP at 0.2%. We suspect that the BoE essentially shares these views and will look past a slowdown last quarter, in the same way that the fast start to the year was discounted. Underlying growth conditions still seem reasonable and we look for an annual average rate of 1.2% this year (i.e. a small improvement on the 2024 figure).
• Still, the mood music around the UK economy has worsened, in part due to fiscal concerns, and weakness in the activity data clearly won’t help with that. Next week’s CPI and labour market data could provide a further test for sentiment if inflation looks sticky and recent signals of a jobs market slowdown are strengthened. In terms of policy we still see the BoE sticking with its established pace of easing, with another move in August, but judge that risks are tilted towards faster cuts.

A sharp slowdown from Q1 – but not as bad as it looks at first glance

The UK economy unexpectedly shrank again in May (-0.1% M/M) and the sharp contraction in April (-0.3% M/M) was left unrevised. Not a great headline, but as ever it’s unwise to place much weight on monthly UK GDP data. The numbers are always volatile and in this case there are various distortions from domestic policy as well as US tariffs. A slowdown after the fast start to the year was always likely.

Look past the noise and the underlying story on growth isn’t that bad. On a 3M/3M basis, GDP expanded by 0.5% after a sizeable upward revision (+0.2pp) to the March growth figure. The May figures were also more mixed than the headline number alone suggests. Yes, production was weak as frontloading effects reversed, and there was a sizeable drag from the volatile retail sector. But overall services still held up fairly well (0.1% M/M). Within that, there was strong growth in information and communication (3.2% M/M) which could be an indicator of AI-related investment.  

More recent data showed that both business and consumer confidence have improved since May and an uptick in June activity is likely. Indeed, following the revision to the March number we think Q2 GDP growth could now come in at 0.2% Q/Q, up from our previous estimate of 0.1%.

Further ahead, there is scope for broad-based support from domestic demand in H2 as the BoE continues its easing cycle and the front-loaded spending plans from the government’s first Budget provide stronger tailwinds. On an annual basis, we still see 2025 growth at 1.2%, which would be a marginal improvement on last year’s rate.

In terms of the BoE implications, we suspect that officials will essentially share our views on today’s data. The BoE’s June projection for 0.25% Q/Q growth is close to our current estimate. Policymakers looked past temporary factors that boosted growth in Q1 and the same will likely be true now those tailwinds have reversed. As noted below, next week’s labour market data could be far more consequential in shaping UK interest rate expectations. Our base case remains that the well-established quarterly easing cycle will be extended through the rest of the year, with the next move in August, but we see risks tilted towards a faster pace of easing.

The UK economy is once again losing steam in Q2...

…but business surveys looked brighter in June   

Fragile sentiment could become more of a headwind

The danger is that these figures add to a sense of gloom around the UK outlook at the moment, with the government’s precarious fiscal situation remaining in sharp focus. There is a chance that the prospect of tough Budget measures in the autumn could increasingly weigh on sentiment, as it did last year, if the government mishandles the messaging again.

There are various other, legitimate areas of concern. UK labour market slack is plainly increasing – the vacancies-to-unemployment ratio continues to fall and is now well below the 2019 average, and there was a notable plunge in payroll employment in the initial estimate for May. With official redundancy notification data not yet ringing alarm bells, our view remains that the labour market is losing steam rather than collapsing. We see it as a situation of broad-based attrition driven by various factors (e.g. the BoE’s restrictive stance, heightened uncertainty, government policy choices). But next week’s labour market data would certainly challenge that story if there’s no revision to the dire preliminary May payrolls figure and another weak estimate for June.

UK CPI will also be in focus next week. Headline UK inflation has risen steadily since September on the back of base effects and government policy shifts, standing at 3.4% in May. We expect headline rates will plateau around this mark through the rest of the year before the disinflation process resumes in 2026. Sticky inflation over coming months could certainly add to the sense of gloom around the UK economy.

Meanwhile, recent tariff developments have underscored our view that the UK government did well to move early and secure a trade agreement with the US. It was no game-changer in itself, but the locking-in of a 10% baseline US tariff with various sectoral exemptions increasingly looks like good business from a UK perspective.

But trade developments could still become more of a headwind too. Trump seems more confident in pulling the tariff lever again. It’s never wise to second-guess him, but on current reading it now looks as though the average US tariff rate could settle around 20% – the highest since the early 1900s. Even with the apparent certainty on US trade policy vis-à-vis the UK, that is a huge shift and would point to a drag on external demand and domestic confidence.

Labour market slack continues to increase and pay growth is set to follow lower…

…but headline inflation is drifting above target in 2025