The National Institute of Economic and Social Research (NIESR) has sharply revised down its outlook for the UK economy, saying the conflict in the Middle East and the resulting rise in energy prices will slow growth and keep inflation above the Bank of England's target through 2027.
NIESR now forecasts inflation to accelerate to 4.1% at the start of 2027 from the current 3.3%, driven by the recent jump in oil and gas prices attributed to the Iran war. The think tank projects that consumer price inflation will not return to the Bank of England's 2% target until 2028.
On growth, NIESR expects the economy to expand by just 0.9% in 2024 and by 1.0% in 2027. Those figures mark a material downgrade from the institute's February projections, which had anticipated growth of 1.4% for this year and 1.3% for next year.
Labour market and wages
The forecaster expects wage growth to decelerate to 3.3% in 2027 as the labour market eases. NIESR also projects that the unemployment rate will peak at 5.5% in the fourth quarter of 2026, a slightly weaker outlook than in its February forecast.
Policy implications and downside risks
NIESR describes a possible adverse scenario in which the Middle East conflict persists and energy prices rise further. In that scenario the institute warns there is a "high likelihood" of Britain entering a recession in the second half of the outlook period.
"The Middle East conflict has laid bare the fact that the UK remains highly exposed to global energy shocks," said David Aikman, director of NIESR.
Under its central projection, NIESR expects the Bank of England to raise rates only once this year, in July, lifting the Bank Rate from 3.75% to 4.0%. But in the adverse scenario policymakers would need to raise rates by 150 basis points - equivalent to six quarter-point increases - taking the Bank Rate up to 5.25%.
The British central bank is scheduled to publish its own updated economic forecasts on Thursday, at the same time it is widely expected to hold interest rates steady. Financial markets, by contrast, were pricing in two or possibly three rate increases by the end of 2026 as of the last trading session noted by the forecaster.
Public finances
NIESR singled out the government finances as an area of concern. It said that finance minister Rachel Reeves would need to run primary budget surpluses - a position last achieved by Britain in 2001 - to address what the institute described as an "unfavourable" debt trajectory.
The think tank's growth projection for 2026 sits slightly above the International Monetary Fund's most recent estimate, according to its report.
Exchange rate
The report uses an exchange rate of $1 = 0.7411 pounds in its published figures.
In sum, NIESR's updated forecasts point to a period of weaker growth and persistent inflationary pressure driven largely by higher energy costs, with implications for monetary policy, household incomes and the public balance sheet should the conflict in the Middle East continue to push up commodity prices.