Depending on which newspaper you read last week, the UK economy was either steaming ahead or was on the verge of another recession. As always, the truth is somewhere in between. Growth of 0.3% in Q2 was actually pretty good, but the drivers of growth threw up some red flags and there is good reason to think the best is already behind us, for this year at least.

What 0.3% UK economic growth means and why it matters

The economy expanded by 0.3% q/q in Q2. That was a sharp slowdown from the 0.7% growth in Q1, but it was also much better than the 0.1% growth that the Bank of England had expected, hence those contradictory headlines.

So, while 0.3% might not sound like much, there are two reasons why it’s actually much better than it sounds.

First, Q2 includes “awful April” with all its tariffs and tax increases. This caused firms and households to bring activity, such as exports to the US and house purchases, forward and making Q1 look stronger than it really was. The payback from that rush of activity – a sort of economic hangover – is that it makes Q2 look weaker than in reality.

If we average out both Q1 and Q2 and look at the first half of the year as a whole, the picture actually looks pretty good. Quarterly growth comes out at about half a percent, meaning the economy grew by around 1% in the first half of the year, which is almost twice as fast as the US and eurozone economies.

Second, 0.3% isn’t that far off the UK’s potential growth rate. This is how fast the UK economy can grow without generating excess inflation. One way of thinking about this is like an economic speed limit. If the economy grows too quickly for too long, then there will be a price to pay. For the economy, it’s higher inflation rather than points and a fine if you’re a driver. The UK’s economic speed limit is probably around 1.5% a year or 0.4% a quarter. We may wish it was higher, but unless there are major structural reforms, or a big boost to productivity from AI, this limit is unlikely to move by much.

So, 0.3% a quarter is only a little below the speed limit and growth in the first half of the year was actually a little faster than it.

The downsides to 0.3% UK economic growth and the impact on the rest of 2025

However, there are a couple of reasons to be wary.

This first is that the balance of growth doesn’t look as healthy as the headline figures suggest. The biggest driver of growth in Q2 was government spending, which rose by 1.2% q/q. Without this boost, growth would have flatlined. Consumer spending grew by just 0.1% as consumers continued to be cautious. Meanwhile, business investment fell by 4% as surging economic uncertainty prompted firms to put the brakes on capital spending.

Second, consumers remain reluctant to open their wallets, despite having a healthy stock of savings and signs that consumers were gradually becoming more confident over the first half of the year. In addition, weaker global demand due to tariffs will continue to drag on exports. April’s tax hikes are still weighing on employment prospects, especially in the private sector. Finally, the speculation of further tax rises as we head into the autumn could also prompt consumers and businesses to delay big-ticket items and capital outlays until the outlook becomes clearer.

At the margin, stronger growth in Q2 than the MPC was expecting probably makes a rate cut in November a bit less likely. This is because a stronger economy typically means more price rises. In any case, inflation and jobs data are much more important than GDP growth alone for deciding the direction of rate cuts.

Ultimately, growth probably isn’t going to pick up from Q2’s 0.3% rate as we head into the second half of the year. However, that would still give us UK economic expansion of about 1.2% in 2025 as a whole, which is a little faster than it was in 2024. For once, the risks are also to the upside on this.

When the latest inflation figures are published on Wednesday, we expect the Consumer Prices Index (CPI) to rise to 3.7% in July from 3.6% previously.

The increase will largely reflect a strong rise in motor fuels, which we expect to jump by over 1.5% m/m from June. This alone will push the annual rate to -6.7% from -9% previously.

What’s more – and just as impactful for consumers – is that food inflation will likely rise to 4.7% from 4.5%, as higher wholesale prices continue to make their way through the system.

Rising fuel and food costs will further dent the chance of a rate cut in November as the Monetary Policy Committee (MPC) wrestles with the risk that the rising cost of essentials means household’s inflation expectations are becoming too high to return inflation to 2%. Conditions like these prompt households to bargain for bigger pay rises and firms to be more aggressive in hiking prices to protect their margins.

On the services side, a seasonal jump in airfares is likely to boost inflation here to 4.8% from 4.7%.

Looking ahead, we expect inflation to peak at 4% in September before easing more materially next year. We expect inflation to drop to just under 3% in April and broadly stay around that level. However, the risk is that the Chancellor raises duties by more than we expect to meet her spending obligations. In this scenario, we think inflation will struggle to fall below 3% next year.

Retail sales probably rose slightly in July. More interesting than the weather this time around is how demographics are shifting spending patterns and sentiment.

Retail sales have tracked better with consumer confidence among younger consumers recently. Consumer confidence among the under-50s rose above its 2015–2019 average for the first time in nearly four years in July, which is where we take our signal from.

Additionally, the housing market’s recovery should boost sales of household goods. These shrank by almost 3% in May and failed to recover in June after households made purchases ahead of April’s rise in stamp duty.

Admittedly, this simple model and its reliance on previous retail sales and leading indicators, like consumer purchasing intentions and the British Retail Consortium’s measure of retail sales, which we adjust for inflation and seasonal effects, points to a slowdown in the annual rate of growth. This as our chart below shows. A straight read suggests retail sales fell 0.3% m/m in July.

However, this model doesn’t account for the fifth hottest July on record, an array of sporting and music events, or the distortions in the survey data that could be dampening consumer confidence – including the effect of different age demographics’ political views.

Ultimately, we therefore look for a small gain in retail sales as consumers continue to cautiously increase spending.

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