14 July 2025: Britain’s fiscal issues are rising

The National Institute of Economic and Social Research delivered its monthly report of GDP on Friday. This showed a further contraction of the economy. Growth remains sluggish in line with current expectations. Monthly GDP fell by 0.1 per cent in May, following a contraction of 0.3 per cent in April, mainly caused by a significant decline in the production and construction sectors.

Recent indicators suggest the growth outlook remains fragile, with momentum uneven across sectors. Persistent falls in hiring and subdued investment point to ongoing caution among households and businesses.

Based on the latest survey data and business sentiment, the NIESR continues to project GDP growth of 0.2 per cent in the second quarter of 2025. However, fragile demand conditions and persistently weak private investment are likely to limit the strength of growth this year.

The Chancellor’s fiscal headroom remains limited by historically high levels of public borrowing and debt. Her spending plans now hinge heavily on reviving economic growth, underscoring the urgent need for credible reform to stimulate business investment. The most likely avenue that Rachel Reeves will take is for taxes to be increased in the Autumn Budget, which is expected to be delivered in early October.

Expectations of a base rate cut have increased following the poorer-than-expected GDP figure.

The lack of momentum in the UK economy indicated by these sluggish figures means that an August interest rate cut currently looks inevitable, despite the recent spike in inflation.

The Bank of England is beginning to realize that there is a distinction between inflation rising due to one-off items like the increases in utility costs and council tax, which happened in April, and inflation created by rising prices due to other economic factors.

Reeves, commenting over the weekend, said “Getting more money in people’s pockets is my number one mission. While today’s figures are disappointing, I am determined to kickstart economic growth and deliver on that promise.

“The choices we have made in our first year in government have seen us extend the £3 bus fare cap, fund Free School Meals for over half a million more children, press ahead with plans to deliver free breakfast clubs for every child in the country and increase the National Minimum and National Living Wage, giving a pay rise to 3m workers.

“There’s more to do, that’s why in the Spending Review we boosted investment and jobs, through better city region transport and record funding for affordable homes, as well as backing major projects like Sizewell C.”

The pound looks set to challenge its major support level at 1.3400 as support begins to wane, and the dollar begins to stabilize. Last week, it fell to a low of 1.3481 and closed at 1.3490.

U.S. President Donald Trump's fresh tariff announcements make it "messy" to interpret the state of the economy, Chicago Federal Reserve Bank President Austan Goolsbee said recently, adding that he is hearing a lot of anxiety from business contacts about coming inflation that is not yet obvious in the data.

"I've got to wait until that noise kind of dies down, that anxiety dies falls, before I'm going to be comfortable that we are back on the old golden path, as I called it, to a stable soft landing," Goolsbee said.

"If, every six weeks, we have to revisit whether we're about to have some big supply shock, that's messy at the least."

New tariffs unveiled by President Trump have further muddied the inflation outlook, making it more difficult for me to support the rate cuts that the President has pressed for. Over the past few months, after the pause in the steep bilateral tariffs he proposed in April, anxiety about how tariffs could push up prices calmed substantially.

That had put the Federal Reserve on track to ease interest rates again soon. But the latest round of tariffs could spark fresh concerns about inflation, which might force the Fed to maintain its wait-and-see posture until the central bank gets more clarity.

After months of seeing very little inflation, US consumers probably experienced slightly faster price growth in June as companies started to pass along the higher cost of imported merchandise associated with tariffs.

Prices of goods and services, excluding volatile food and energy costs, rose 0.3% in June, the most in five months. In May, the core consumer price index edged up 0.1%.

White House senior trade adviser Peter Navarro touted “Trumpanomics” in a recent interview while ranting against Jerome Powell, slamming the Federal Reserve chair as a “pure partisan” actor who, in his view, is holding back the economy.

It’s like in the first term, when President Trump was in, Powell gets put up to the chair, and the first thing he starts doing is raising rates, because he doesn’t understand how powerful Trumponomics is and be able to generate strong growth without generating inflation,” Navarro, a frequent critic of Powell, said in a radio interview.

Trump’s loyal band of sycophants have an extremely narrow view of the U.S. economy and have divorced growth from inflation, while the Fed has a dual responsibility for growth and price stability.

If Trump wants the Fed’s mandate to be limited to promoting growth, he will soon hit a brick wall in Congress.

The dollar index has its short term level of resistance set at 99.10 which will be difficult to challenge given the current uncertainty. Last week the Greenback some a good level of support, climbing to a high of 97.96 and closing at 97.87.

ECB Executive Board and Governing Council Member, Isabel Schnabel, believes that the Central Bank has set a very high bar to be reached if it wants to cut rates again at its meeting, which takes place next week before the members of the rate-Setting Committee jet off for their summer holidays.

"Inflation is projected to be at 2% and inflation expectations are well anchored," Schnabel said. "In view of this, our interest rates are also in a good place, and the bar for another rate cut is very high."

"We are in a good place," Schnabel told reporters, pointing to strong manufacturing and growth data across the eurozone as well as banks reporting that current rates were not putting off borrowers.

"Manufacturing has continued to improve with, strikingly, all the forward-looking indicators having continued their upward trend," Schnabel said, meaning that "the bar for another rate cut is very high".

Asked if the euro's recent strengthening against the dollar could drag inflation below the ECB's two percent target, Schnabel said she was sceptical.

"The fear of the exchange rate appreciation putting downward pressure on underlying inflation is exaggerated," Schnabel said. However, the 14% increase in the value of the Euro since the start of the year must be seen in some part of the economy.

The radical fall in inflation despite rates also having fallen, by 200 basis points, must have been the most significant contributory factor in falling prices, since the cost of imports has fallen consequentially.

German Economic Affairs Minister Katherina Reiche has called on the European Commission to hold pragmatic talks with Washington to settle the dispute over tariffs.

"As the time for negotiation runs down, the European Union should pragmatically discuss with the United States a solution oriented toward the key conflict areas."

According to Reiche, the German Government supports the European Commission’s approach to this matter. She stressed that the proposed tariffs will hit European exporters severely but, at the same time, they will likewise impact the economy and consumers overseas.

Prior to Reiche’s speech, Trump posted on his Truth Social platform a letter to the European Commission’s president notifying that starting on August 1, 2025, the United States "will charge the European Union a tariff of only 30% on EU products sent to the United States, separate from all sectoral tariffs," which are now standing at 10%.

Commenting on this move, European Commission President Ursula von der Leyen stated that these tariffs "would disrupt essential transatlantic supply chains, to the detriment of businesses, consumers and patients on both sides of the Atlantic" and pledged that the European Union will "continue working towards an agreement by August 1," but will "take all necessary steps to safeguard EU interests.

The euro continued its recent correction last week, falling to a low of 1.2662 and closing at 1.1689. The euro's most significant level of support is set at 1.1390 which means that the single currency can lose significant ground and still be considered to be in an uptrend.

Have a great day!