Where we are now: UK industrials edging back into expansion

UK manufacturing entered 2026 with faint but discernible momentum. The S&P Global Manufacturing PMI ticked up to 50.6 in December, its highest in 15 months, marking a second consecutive month of growth as firms reported a third straight monthly rise in production and improving order books. Confidence is cautious. Some of the late 2025 tailwinds are expected to fade and the sector has proven more resilient than feared amid worries about tax changes and temporary disruptions, such as the Jaguar Land Rover shutdown.

That modest optimism is set against a difficult 2025 base. As of October, industrial output was still 0.8% lower year on year, leaving the sector below its pre pandemic level. The recent Autumn Budget also avoided some of the speculative headline-making measures that would’ve further squeezed margins. This gives firms some breathing room to rebuild profitability after absorbing higher labour costs. However, another round of increases to the National Minimum Wage this April, and the pressure that puts on pay bands, could make rebuilding profit margins that much harder for firms still struggling to adjust after 2024’s Budget. Inflation dynamics also look more supportive. Headline inflation is expected to fall back toward 2% faster than previously assumed, easing cost pressures and creating space for likely one Bank of England (BoE) interest rate cut in 2026. This could improve financing conditions for some capital projects, which our Financial Conditions Index tracks.

The macro context: stability first, then a mild upturn

The Chancellor’s fiscal stance is designed to steady the ship rather than materially lift the medium term growth trajectory. In fact, the most tangible effect likely showed up in Q4 2025, where a run of soft borrowing figures and confidence surveys signalled stagnation. Much of that activity looks delayed, rather than cancelled, pointing to a Q1 2026 rebound.

We expect total investment by manufacturing businesses to be slightly above 2024 in 2025 and to move closer to 2023 levels in 2026, suggesting a gradual re acceleration rather than a boom. That profile is consistent with firms prioritising targeted capacity and productivity upgrades over large greenfield bets.

However, although we expect investment levels to rise, it’s important to note that they still lag relative to other economies. Among G7 nations, the UK generally ranks near the bottom for business investment as a percentage of GDP, often competing with Italy for the lowest position. Germany, Japan and the United States typically lead the group with higher investment rates. This investment gap has been a feature of the UK economy for several decades, contributing to lower productivity growth compared to other advanced economies.

Food price pressures should ease into mid year. Global agricultural prices peaked in August 2025 and UK food inflation has probably peaked already and will fall quicker in 2026.

Combined with broadly subdued energy prices, the overall inflation mix supports margin repair in energy-intensive subsectors while underpinning a cautious consumer backdrop.

The baseline is for UK GDP growth of around 1.2% in 2026, a touch slower than 2025 as weaker income growth cools consumption. However, with households having saved close to 10% of income, there’s scope for spending to hold up, even as wage momentum normalises. For industrials, the key is that this is a stable demand environment, not a surging one. It means the onus is on productivity and mix rather than volume alone.

The phase-out from September 2026 of the temporary 5p cut to fuel duty will nudge transport and distribution costs higher into late 2026−27. The freeze is estimated to cost £2.4bn in 2026−27 and then about £900m a year. It turns this time-limited policy from a cushion into a mild headwind for logistics heavy manufacturers.

Even with cyclical relief, the longer term challenge remains: the UK faces some of the highest industrial energy prices among advanced economies and North Sea policy choices will keep mining output subdued. In the absence of a step change in energy strategy, competitiveness will depend on well targeted investment that boosts productivity and resilience.

Key UK industrials trends for 2026

Below are the themes we consider most likely to shape performance, capital allocation and risk management in 2026 and therefore where boards and executive teams should focus.

Economic environment and cost of capital: building margins in a flat world

Energy costs have eased from their peaks and still have room to fall modestly, providing short term relief for energy intensive producers. With inflation looking like it’s going to average 2.7% this year and the BoE probably making one cut to interest rates this year, the cost of capital should be a shade more forgiving, enabling selective investment in productivity and process optimisation. That said, business borrowing costs remain elevated, reflecting the risk premium embedded in gilt yields, which form the benchmark for corporate credit pricing. Part of that additional cost reflects ongoing market concerns around the UK’s public finances. Also watch for the post September fuel duty step ups to creep into distribution costs late in the year and for any reversal in commodity relief if geopolitical risks flare. The net message: 2026 is a margin rebuild year, not a demand supercycle − cost discipline and throughput efficiency are paramount.

Sustainability and decarbonisation: from compliance to competitiveness

Decarbonisation remains central, not only for regulatory alignment, but also for lowering lifetime operating costs in a high energy price country. Expect more projects targeting electrification of heat, waste heat recovery, process efficiency and on site renewables or power purchase agreements (PPAs). Firms that target investment precisely − prioritising high return energy retrofits and process upgrades − will create cost advantages while progressing net zero pathways.

Smart factories and AI driven operations: productivity as the growth engine

The industrial AI adoption curve steepened through 2025. Surveys show most firms see AI as augmenting labour, productivity and workforces rather than replacing them. In 2026, expect deployment to broaden from pilots (like predictive maintenance and quality inspection) to plant wide optimisation (like line balancing, energy management and scrap reduction). The strategic prize is turning moderate end market growth into double digit output per labour hour through better uptime, yield and cycle times.

Cybersecurity: protecting digitised plants and IP

As factories digitise, operational technology (OT) attack surfaces expand. Ransomware events that stop production now carry larger opportunity costs because leaner inventories and just in time suppliers mean there’s less buffer. 2026 will see more zero trust principles moving from IT to OT, greater network segmentation between plant layers and continuous monitoring tied to safety instrumented systems. Cybersecurity is no longer a compliance item; it’s core uptime risk management.

Supply chain resilience: de-risking for a world of rolling shocks

Firms have moved from emergency re routing to structural resilience: dual sourcing critical components, nearer shore subassemblies and higher safety stocks for long lead items. 2026 adds a focus on supplier digital twins, improved inbound visibility and contracts that share volatility costs. The aim is to preserve service levels without bloating working capital − especially important as growth is steady, but slow, rather than surging.

Talent: skills for a human plus machine era

Despite headlines about automation, recent surveys show most industrials plan workforce expansion linked to productivity, not cuts. The skills mix, however, is shifting. Maintenance technologists, data literate operators and controls engineers are in higher demand. Leaders in 2026 will scale on the job upskilling, pair domain experts with data scientists and re design roles so operators can co pilot AI tools on the line. Retention will hinge on visible career pathways into higher value tasks as repetitive work is automated.

In summary: priorities for UK Industrials in 2026

2026 begins with a manufacturing sector that is stabilising, not soaring. The macro backdrop (disinflation, potential BoE easing and cautious, but positive, demand) favours execution over exuberance. Relative to the eurozone, the UK enjoys a small cyclical edge this year, but Europe could lift later if German fiscal measures bite. The decisive advantage for UK industrials will come from smart deployment of capital: decarbonising where it saves money, digitising where data is ready, de-risking supply chains surgically and developing talent to harness AI at the line level. In a world where top line growth is modest, the winners will be those who can compound productivity.

For more information, please contact Emily Sawicz.

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