By Fatma Younis
The UK is feeling the full force of the Middle East conflict on its economy despite no direct involvement, according to the latest forecast from the Office for Budget Responsibility (OBR). Soaring energy prices are set to dent growth in the short term, push up inflation and leave living standards in a "grim" place, the OBR said in its first assessment since the conflict began.
Growth forecasts revised
The OBR raised its growth forecast for this year but sharply cut next year's prediction from 1.6% to 1%, with a rebound expected in later years. Chancellor John Healey warned the nation faces "real challenges ahead" and announced policies aimed at giving households "breathing space" in the coming months.
Inflation and energy costs
Rising energy prices are the biggest near-term risk, the OBR said. Petrol averages nearly £1.73 per litre and diesel near £1.99. Higher fuel costs filter through supply chains, lifting prices for goods such as food. Inflation is forecast to peak at 3.8% in 2027 and average 3.4% next year before falling to the Bank of England's 2% target toward the end of the decade. Economists at Pantheon Macroeconomics said the government's cost-of-living support measures were "small beer given the surge in inflation we expect over the winter."
Interest rates and government borrowing
The Bank of England is widely expected to raise interest rates next week from the current 3.75%. The OBR now sees rates rising as high as 4.5% in coming years, reversing its previous forecast of two cuts this year. Higher rates increase borrowing costs for households and the government, with debt interest repayments set to rise each year by more than previously forecast. Higher welfare and pension spending due to inflation is also expected to increase borrowing, though it is forecast to fall as a share of the economy over the next five years.
Living standards outlook
Real household disposable income, a measure of living standards, is forecast to dip next year as energy bills erode spending power, hitting lower-income households harder. The OBR's David Miles described the picture as "pretty grim," noting virtually no growth for individuals since before the Covid pandemic.
Uncertainty remains
The OBR admitted "significant uncertainty" around its predictions due to the evolving Middle East situation. US President Donald Trump has suggested the war could end after next month's mid-term elections, which could alter inflation expectations.
