The British economy is bracing for significant challenges ahead, as the latest forecasts from economic watchdogs reveal a sharp decline in growth expectations. The Office for Budget Responsibility (OBR) has cut its GDP forecast for 2025 to just 1%, down from an earlier estimate of 2%. This adjustment comes in response to rising borrowing costs and the looming threat of breaching fiscal rules, prompting British finance minister Rachel Reeves to revise the budget accordingly.
Reeves' updated budget outlines measures involving cuts of up to £14 billion by the 2029-2030 fiscal year. Notably, social spending and welfare will face reductions amounting to £4.8 billion (€5.7 billion), while departmental spending will be slashed by £3.6 billion. An additional £2.2 billion will be cut from efforts to combat tax evasion. Furthermore, accounting changes totaling £3.4 billion have been made, primarily shifting current expenditure to capital projects, which are exempt from the primary fiscal rule. In a bid to bolster national security, the government plans to increase defense spending to 2.5% of GDP by April 2027.
Meanwhile, uncertainty surrounding US trade tariffs is projected to cost the eurozone and UK economies billions in 2025 and 2026. S&P Global's latest report indicates that economic uncertainty will reduce the eurozone economy, valued at €14.6 trillion, by a cumulative 0.4% of GDP over the next two years. The report also revised earlier growth expectations for the eurozone from 1.2% to 0.9% for 2025, largely due to this uncertainty.
Sylvain Broyer, Chief EMEA Economist at S&P Global, cautioned that "uncertainty itself is likely to pose a greater risk to the European economy than the tariffs alone." The potential for increased tariffs on US car imports has raised concerns about the impact on European recovery. In a worst-case scenario, where US tariffs on all EU imports rise to 25%, GDP growth in the eurozone could be limited to just 0.5% in 2025 and 1.2% in 2026. Germany, heavily reliant on US car exports, could see a 0.1% reduction in output for 2025 due to these tariffs.
Despite these challenges, there are signs of optimism in Europe. Fiscal stimulus measures in Germany and the EU could lead to a GDP growth of 1.4% in 2026. Broyer noted that EU member states are likely to agree to an increase in defense spending by 1% of GDP from 2026, which could boost eurozone GDP by 0.1% in 2026, 0.2% in 2027, and 0.3% in 2028.
The European Central Bank (ECB) is also expected to respond to the evolving economic landscape. S&P Global forecasts that the ECB will cut interest rates one more time in 2025, potentially lowering them to 2.25% in April or June. The report anticipates that the ECB will begin raising its key interest rate in the second half of 2026, with two hikes expected until the deposit facility rate reaches 2.75% by the end of that year.
On the UK front, growth prospects have nearly halved, with S&P Global slashing its expectations for the British economy from 1.5% to just 0.8%. This dramatic reduction is attributed to high inflation, weak export volumes, and tight monetary policy. The UK's GDP expanded by 1.1% in 2024, but if the country cannot navigate the newly announced 25% tariffs on car exports to the US, it could face a 0.2% hit to GDP. Marion Amiot, Chief UK Economist at S&P Global Ratings, emphasized the importance of car exports to the US, which provided 31% of the UK's GDP in 2024.
Weak export growth is further compounded by elevated labor and energy costs, with Amiot noting that energy prices remain twice as high as they were before the energy crisis. However, the defense sector may see accelerating demand, as the UK is the fourth largest defense exporter in Europe. Increased EU military spending could provide opportunities for UK firms, although some EU spending may exclude them.
As the UK government faces limited fiscal maneuverability, uncertainty looms over potential tax increases. Amiot highlighted that firms and households are likely to brace for more tax hikes or further cuts to welfare programs, which could dampen confidence in investment and spending.
In terms of monetary policy, the Bank of England has kept its benchmark interest rate stable at 4.5% during its latest meeting. While the inflation figure for February stood at 2.8%, analysts predict that prices will rise sharply in the coming months. S&P Global forecasts that the Bank of England will cut rates to 4% by the end of the third quarter in 2025, although this projection includes one less rate cut than previously anticipated, reflecting concerns about persistent inflation.
Looking ahead, growth in the UK is expected to accelerate in 2026, with S&P Global predicting a 1.6% increase in economic output. "Things are looking up for 2026, with regional growth picking up, rates cut by another 50 basis points, and inflation edging back to 2.5%," the report stated.
As the UK and eurozone navigate these turbulent economic waters, the interplay of trade policies, fiscal measures, and monetary policy will be crucial in determining the trajectory of growth in the coming years. The focus on fiscal responsibility and strategic investments in defense may provide some stability, but the overarching uncertainty surrounding international trade continues to pose a significant threat to economic recovery.
