UK Economy Returns to Growth, but Challenges Remain

Written By Will Gardner

Martin Beck, Chief Economist | Economic Consulting and Analysis

Growth in August, but don’t get carried away

The UK economy returned to growth in August, with GDP rising a modest 0.1%, in line with economists’ expectations. Given the volatility and frequent revisions in monthly data, it’s unwise to read too much into a single month’s figure. The ONS’s previous estimate of no growth in July, for instance, was revised down to a 0.1% contraction, leaving the economy flat over the last two months. Even so, underlying momentum improved, with three-month-on-three-month growth ticking up to 0.3% from 0.2% in July.

Headwinds remain significant

Despite this improvement, the economy still faces hurdles to sustaining a healthy expansion.

Cost of living pressures are still biting, interest rates are still in restrictive territory, and fears of major tax rises in next month’s Budget are weighing on confidence.

September’s composite PMI slipped to a four-month low, and other surveys point to weakening sentiment and slower activity. These indicators underline that the recovery remains fragile and uneven across sectors.

Surveys may be too gloomy

Even so, we suspect recent survey gloom overstates the economy’s weakness. Both households and businesses are, in aggregate, in an unusually strong financial position:

  • Savings remain elevated

  • Debt levels are relatively low – for example, the ratio of household debt to income in Q2 2025 was the lowest since 2002.

  • The labour market appears to be stabilising after a period of weakening

While rising in recent months, unemployment remains modest by historical standards, and wage growth continues to outpace inflation, helping to sustain consumer spending power and confidence.

Why this matters for business

For businesses, the message is mixed.

  • Caution: Still high interest rates (by the standards of most of the last 15 years) and what now look to be inevitable tax hikes in the Budget could weigh on investment and hiring decisions over the coming months.

  • Opportunity: Resilient household finances and the potential for a succession of interest rate cuts in 2026 (particularly if the Chancellor delivers a significant fiscal tightening), could support demand and margins, especially in consumer-facing sectors.

  • Planning ahead: Firms should prepare for a year of modest but steady growth, with the policy environment gradually shifting from restraint to support.

Understanding where the economy is stabilising, and where it remains vulnerable, will be key to strategic decisions on pricing, recruitment, and investment.

Our take

We expect UK GDP to grow by 1.5% in 2025, above the 1.2% consensus.

Consensus forecasts for a slowdown to just 1.1% in 2026 look too pessimistic in our view. Scope for the Bank of England to cut rates further, offsetting the drag from tax increases, should provide some cushion.

In addition, the prospect of a gradual easing in inflation, spillovers from looser monetary and fiscal policy in the US and Europe, and a hopefully calmer geopolitical backdrop should all help growth pick up next year. The rapid adoption of AI, boosting investment and productivity, could also lift activity. We think the economy will expand by 1.6% in 2026.

Even so, by historical standards, this would be a subdued pace. Fiscal risks and global uncertainties could easily knock expansion off course. The UK economy may outperform current pessimistic forecasts, but a return to robust, broad-based expansion still looks some way off.

Will Gardner