Author: Tommaso T. Bartolozzi

UK: a fragile recovery

The United Kingdom is growing again. After months of stagnation and mixed signals, UK GDP grew by 0.7% in the first quarter of 2025, temporarily outperforming Germany, France, and Japan among advanced economies. But behind this apparently positive figure lies a more complex reality: a cooling labor market, inflation still above target, public debt near 100% of GDP, and a Bank of England struggling between political pressure and credibility risks.

In this article, we analyze the main macroeconomic dynamics of the United Kingdom, unresolved structural bottlenecks, and the implications for financial markets and institutional investors.

Growth, but on a short leash

UK GDP grew by 0.7% quarter-on-quarter in Q1 2025, driven by services (+0.7%) and industrial production (+1.1%), while construction remained flat. It’s the best result in two years and brought annual growth to 1.2%, according to the ONS (Office for National Statistics). However, economists are cautious: the acceleration seems largely transitory, driven by inventory accumulation and a partial rebound in consumption after the 2023 slowdown.

Forecasts for the rest of the year suggest more moderate growth, between 0.9% and 1.2%, with the IMF and KPMG agreeing on a soft landing scenario—yet one that remains at high risk of stagnation in 2026 if structural issues are not addressed.

Inflation declining, but still too high

Consumer inflation stands at 3.4% (May 2025), but still well above the Bank of England’s 2% target. The decline is partly due to lower energy and transport prices, but core inflation (excluding energy and food) remains around 3.7%, sustained by services, particularly rent, education, and private healthcare.

The BoE has cut rates twice in 2025, bringing the Bank Rate down from 5.25% to 4.25%, but the Monetary Policy Committee is split: on one side, the disinflation allows for monetary easing, on the other, persistent core inflation and wage pressure call for caution. The market is pricing in two more 25bp cuts by year-end, but the cycle is likely to proceed slower than expected.

Implications for bond markets: 10-year Gilts trade around 3.95–4.10%, after nearing 4.5% in 2024. The spread with German Bunds remains historically high, reflecting UK fiscal fragility. Forward curves suggest rates “higher for longer,” putting duration and convexity back at the center of risk-free asset pricing.

Labour market: the slowdown begins

UK employment is still solid, with a 75.1% participation rate and about 34 million employed, but unemployment rose to 4.6% in the February–April 2025 quarter (from 4.1% a year earlier). More worrying is the slowdown in real wage growth: nominal wages are rising at 5.2% YoY, but real wage growth is barely positive (+2.1%), thanks only to falling inflation.

At the same time, the household savings rate dropped to 10.9%, a sign that many consumers are drawing down their post-COVID buffers to maintain consumption levels. Without further disinflation or more aggressive rate cuts, consumption is likely to slow in H2 2025.

Implications for equity: stocks tied to domestic consumption (retail, utilities, autos) are undergoing a repricing. The FTSE 250, more domestically exposed than the FTSE 100, is down 3.2% YTD versus +1.6% for the main index. Flows are shifting toward defensive and stable-dividend stocks.

Balance of payments and the pound

The current account deficit widened to £21 billion in Q4 2024 (~2.9% of GDP), while the trade deficit reached £15.6 billion in the first two quarters of 2025. The pound has shown resilience, up 3.4% YoY (especially versus the euro and yuan), but remains vulnerable to exogenous shocks and sentiment shifts toward UK assets.

FX implications: in the short term, the pound may benefit from still-positive real rates and a better cyclical backdrop than the eurozone. But over the medium term, BoP fundamentals remain weak. Those with GBP/USD and GBP/EUR exposure should consider 6–12 month hedging strategies.

Structural bottleneck: productivity and potential stagnation

Since 2008, UK productivity growth has been nearly flat: +0.2% per year versus a pre-2007 average of +2.5%. Per capita GDP has grown by just 0.7% annually for over a decade. This is the true bottleneck of the UK economy.

The causes:

• Low private investment
  
• Post-Brexit inefficiencies in logistics and trade
  
• An education system disconnected from market needs
  
• Chronic lack of coherent industrial policies
  

Long-term outlook: without a qualitative leap in human capital, digital, and infrastructure investment, potential growth will remain weak. The UK risks becoming the “Japan of Europe” with demographic stagnation and low productivity dynamics.

Final thoughts for investors

The UK macro picture shows stark contrasts. In the short term, fundamentals appear to stabilize: mild growth, falling inflation, and a BoE in data-dependent mode. But medium-term risks loom large:

1. An unsustainable fiscal structure, limiting countercyclical policy flexibility
   
2. Stagnant productivity, capping real growth and corporate earnings potential
   
3. Heavy reliance on foreign flows, making the UK vulnerable to geopolitical or sentiment shocks
   

For institutional portfolios, the takeaways are clear:

• Long-duration Gilts: beware of duration risk in a rising term premium environment and an unresponsive curve
  
• Sterling: treat as a cyclical asset, not a safe haven
  
• UK equity: opportunities in defensive sectors (healthcare, food), still unattractive for growth plays
  
• Investment grade corporate credit: compelling valuations in some high-quality names, but watch leverage and country risk sensitivity
  

The window for a real reboot remains open, but is narrowing. If Westminster cannot address structural bottlenecks with clarity and courage, the UK risks remaining in an economic limbo where the cycle moves, but the direction stays uncertain.