The UK economy is set for a significant slowdown in 2026, with growth projected to decelerate sharply as fiscal tightening measures and global headwinds take their toll, according to the latest quarterly forecast from the EY Item Club.
Sharp Deceleration in Economic Growth
The influential economic forecasting group predicts that gross domestic product (GDP) growth will pull back to just 0.9% in 2026. While this represents a slight upgrade from their previous prediction of 0.8% expansion, it marks a substantial slowdown from the forecasted 1.4% growth anticipated for 2025.
This economic deceleration comes as previously announced tax increases and spending cuts continue to impact the broader economy. The government's fiscal measures, designed to build fiscal headroom and reduce borrowing, are expected to constrain economic activity throughout the coming year.
Business Investment Set to Contract
Perhaps more concerning is the forecast for business investment, which is expected to slam into reverse with a 0.2% contraction in 2026. This represents a significant deterioration from the 0.8% growth predicted just months earlier in November, highlighting how quickly business sentiment has shifted amid ongoing global uncertainty.
Matt Swannell, chief economic adviser to the EY Item Club, explained the economic context: "The autumn budget saw the Government build a healthier degree of fiscal headroom, although some of the more substantial measures won't take effect for a couple years."
"In the meantime, further tax rises may not be expected in 2026, but previously-announced measures will begin to raise revenues while the Government will need to reduce borrowing and keep public spending steady in order to meet its fiscal rules," Swannell added.
Fiscal Policy and Global Uncertainty Weigh on Outlook
The combination of fiscal tightening and persistent global uncertainty is creating a challenging environment for UK economic growth. "This tightening of fiscal policy, alongside ongoing global uncertainty, is expected to drag on UK growth over the next year or so," Swannell noted.
The forecast comes ahead of the Bank of England's interest rate decision and latest economic projections, with most analysts expecting the central bank to maintain the bank rate at 3.75%.
Interest Rate Cuts Offer Limited Relief
The EY Item Club anticipates one further rate cut this year, likely in April, as inflation is projected to ease toward the Bank of England's 2% target by mid-year. While this should provide some relief to homeowners and businesses carrying debt, the report suggests it will do little to fundamentally alter the lacklustre economic outlook.
Compounding the challenges, unemployment is expected to increase even as inflation moderates. "Easing inflation and falling interest rates should improve consumer sentiment, but this will be countered by slowing pay growth and rising unemployment levels," Swannell explained.
Consumer Spending to Remain Modest
Despite these headwinds, the report suggests consumer spending may continue to grow, albeit at a modest pace. "Nonetheless, the current confidence gap between high and low earners is unusually wide and, as households on greater pay start to feel more upbeat, we can expect slowing real income to be cushioned by a reduced focus on saving," Swannell said.
"This should support continued consumer spending growth this year and next, albeit at a modest level," he concluded, suggesting that while the economic picture remains challenging, it may avoid outright contraction in consumer activity.
The overall outlook paints a picture of an economy navigating multiple constraints, with fiscal policy, global uncertainty, and shifting monetary conditions all contributing to a projected slowdown in growth and contraction in business investment throughout 2026.
