U.K. economy faces muted growth, rising inflation in H2 2025

Barclays forecasts a challenging UK economic outlook for H2 2025, expecting muted activity, inflation peaking at 4.0% by September 2025, and unemployment rising to 5.1% by Q3 2026. Despite recent 0.3% Q2 GDP growth, the bank anticipates a slowdown, prompting two Bank of England rate cuts by early 2026 to 3.5%. This comes alongside projected fiscal tightening of £26.5 billion via tax increases to manage public sector net borrowing of £129 billion, signaling a period of economic contraction and policy adjustments.

Analysis

Barclays' latest economic outlook paints a challenging picture for the U.K. economy heading into the second half of 2025, marked by stagflationary pressures. The bank forecasts real GDP growth to slow to 1.2% in 2025, despite a robust 0.3% quarter-on-quarter expansion in Q2 2025, as weakening fundamentals take hold. This slowdown is underscored by a GfK consumer confidence indicator fall to -19 and a loosening labor market, with unemployment projected to peak at 5.1% in Q3 2026. Concurrently, inflation is expected to rise, peaking at 4.0% in September 2025 before returning to the Bank of England's 2.0% target by Q2 2026. In response to the anticipated economic weakness, Barclays projects the Bank of England will enact two rate cuts by February 2026, lowering the Bank Rate to 3.5%. This monetary easing is set against a backdrop of fiscal constraint, with an expected fiscal tightening of £26.5 billion to manage public sector net borrowing of £129 billion (4.3% of GDP), pushing public debt to nearly 95% of GDP.

Key Decisions for Investors

• Investors should exercise caution with UK domestic-focused equities, particularly in the consumer discretionary sector, given the projected slowdown, fiscal tightening via tax increases, and subdued consumer confidence.
• The forecast for two Bank of England rate cuts starting in late 2025 suggests a bullish outlook for UK government bonds (gilts); consider positioning for lower yields and potential capital appreciation in medium-term fixed income.
• The combination of a dovish monetary policy pivot and deteriorating economic fundamentals presents a bearish case for the British Pound (GBP), suggesting that hedging sterling exposure may be a prudent strategy.