UK economic growth flatlined in January, highlighting how the UK economy is heading into a possible energy shock with no forward drive to help absorb it. This makes it even more likely 2026 will end up as another year of economic stagnation. Even if there is a swift resolution to the conflict in Iran and the Middle East, UK economic growth will probably still come in below 1% this year.

Zero UK growth, despite January’s positive sentiment

The UK economy stagnated in January. The latest GDP figures came in below the consensus forecast of a 0.2% m/m rise and confounded the signal from private sector surveys.

The big drag on growth came from the administrative sector, which lopped 0.12ppts off growth. Within this, the big 5.7% fall in employment activities and 3.9% fall in rental and leasing activities also highlight just how dismal both the labour market and housing market are.

With the Bank of England (BoE) likely to be sidelined for the year and swap rates, which mortgages are priced off, rising, the outlook is now materially weaker for the housing market. Another bout of uncertainty and rising costs for businesses because of the conflict in Iran mean the labour market will remain weak this year.

The rise in construction output was driven entirely by repair and maintenance work. This masked another big drop in new private housebuilding, which is now down 12.5% since September. The dismal weather will weigh on activity again in February, while planning reforms won’t boost activity until next year at the earliest. If anything, planning uncertainty has likely weighed on activity of late, which poses another headwind to the government’s plan to build 1.5mn homes.

Meanwhile, we already knew retail sales surged in January. This lifted retail and wholesale trade by 1%. That said, consumers weren’t entirely willing to open their wallets. A big 2.7% fall in food and beverage services meant consumer-facing services eked out just 0.1% m/m growth.

Elsewhere, there’s little reason for cheer. Industrial output dropped by 0.1% due to a collapse in mining output. North Sea loadings data suggest mining activity will drop again in February as the weather likely hampered activity. The 0.1% gain in manufacturing was flattered by another big jump (+7.2%) in autos output as production fully returned to pre-cyber-attack levels. Fortunately, the manufacturing PMI has been strong recently, which suggests the fading impact of a one-off boost to growth from recovering auto output won’t hamper the sector in February. However, rising energy prices will impact industrials far harder than most.

All told, disappointing growth in January would mechanically lower our call for growth in Q1 to around 0.3%, even before accounting for recent geopolitical events. Households and firms had to deal with heavy weather in February and now the prospect of another energy price shock in March. This all sets Q1 up to be far more disappointing than expected just a couple of weeks ago.

UK growth to slow sharply to below 1%

Beyond Q1, the UK growth outlook is highly uncertain and largely depends on how high and for how long energy prices go. One thing for sure is that the economy heads into the potential crisis with little momentum. Annual growth is running at just 0.8%. This is the lowest since June 2024. Our chart below also shows the economy has barely grown since Q1 2025.

Granted, if the conflict ends swiftly, then the impact on GDP will be muted. In this scenario, growth would still likely come in under 1% compared to the 1.2% we expected earlier this year.

However, if energy prices stay elevated, then another bout of stagflation seems likely. To some extent, the impact on growth largely depends on households’ willingness to reduce savings to offset the impact of higher inflation on real incomes. We had expected real household incomes to barely grow this year, even before factoring in rising inflation. So, another energy price shock would probably result in a year of falling real incomes and depress discretionary consumption.

Ultimately, the outlook is highly uncertain. Energy prices could rise further yet, which would mean a recession is not off the cards given the weak labour market. Indeed, while the domestic economy suggests rate cuts might be needed, it’s geopolitics that will drive the BoE’s thinking now. This means rates will be on hold in March as the BoE waits for clarity on the energy price outlook. In any case, the MPC will probably need to stay on hold to deal with rising energy inflation if prices are sustained at current levels.

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