UK's OBR: We now expect real GDP growth of 1.0% this year
The UK's Office for Budget Responsibility (OBR) said on Wednesday that the UK's long-term fiscal outlook remains very challenging amid the uncertainty surrounding the full impact of changes to welfare policies, per Reuters.
Key takeaways
"We now expect real GDP growth of 1.0% this year."
"UK economy forecast to grow 1.9% in 2026, 1.8% in 2027, 1.7% in 2028, 1.8% in 2029."
"OBR sees CPI of 3.2% in 2025 (October forecast 2.6%)."
"OBR sees CPI of 2.1% in 2026 (October forecast 2.3%)."
"Tax-to-GDP ratio is forecast to increase to a post-war high of 37.7% of GDP in 2027-28."
"High and volatile market expectations for bank rate and gilt yields continue to shape the fiscal outlook."
"The outlook for productivity growth is uncertain both in terms of its level and growth rate."
"If recent weakness in trend productivity growth persists and growth averages just 0.3%, the current budget would be in deficit by 1.4% of GDP in 2029-30."
"Current headroom is very small margin compared to the risks and uncertainty inherent in any fiscal forecast."
"Public spending is forecast to rise to 45.% of GDP next year, before declining over the remainder of the decade to 43.9% of GDP in 2029-30."
"Tax as a share of GDP is forecast to rise from 35.3% this year to a historic high of 37.7% in 2027-28 and remain at a high level for the rest of the forecast."
Market reaction
GBP/USD stays under modest bearish pressure and was lasts seen losing 0.4% on the day at 1.2893. Meanwhile, the 10-year UK government bond yield holds lower, losing about 2.5 basis points at 4.73%, 2-year government bond yield rises and now stays flat on the day at 4.298% and the 30-year government bond yield reverses earlier fall, rising to its highest level since mid-January at 5.407%.
UK gilt yields FAQs
UK Gilt Yields measure the annual return an investor can expect from holding UK government bonds, or Gilts. Like other bonds, Gilts pay interest to holders at regular intervals, the ‘coupon’, followed by the full value of the bond at maturity. The coupon is fixed but the Yield varies as it takes into account changes in the bond's price. For example, a Gilt worth 100 Pounds Sterling might have a coupon of 5.0%. If the Gilt's price were to fall to 98 Pounds, the coupon would still be 5.0%, but the Gilt Yield would rise to 5.102% to reflect the decline in price.
Many factors influence Gilt yields, but the main ones are interest rates, the strength of the British economy, the liquidity of the bond market and the value of the Pound Sterling. Rising inflation will generally weaken Gilt prices and lead to higher Gilt yields because Gilts are long-term investments susceptible to inflation, which erodes their value. Higher interest rates impact existing Gilt yields because newly-issued Gilts will carry a higher, more attractive coupon. Liquidity can be a risk when there is a lack of buyers or sellers due to panic or preference for riskier assets.
Probably the most important factor influencing the level of Gilt yields is interest rates. These are set by the Bank of England (BoE) to ensure price stability. Higher interest rates will raise yields and lower the price of Gilts because new Gilts issued will bear a higher, more attractive coupon, reducing demand for older Gilts, which will see a corresponding decline in price.
Inflation is a key factor affecting Gilt yields as it impacts the value of the principal received by the holder at the end of the term, as well as the relative value of the repayments. Higher inflation deteriorates the value of Gilts over time, reflected in a higher yield (lower price). The opposite is true of lower inflation. In rare cases of deflation, a Gilt may rise in price – represented by a negative yield.
Foreign holders of Gilts are exposed to exchange-rate risk since Gilts are denominated in Pound Sterling. If the currency strengthens investors will realize a higher return and vice versa if it weakens. In addition, Gilt yields are highly correlated to the Pound Sterling. This is because yields are a reflection of interest rates and interest rate expectations, a key driver of Pound Sterling. Higher interest rates, raise the coupon on newly-issued Gilts, attracting more global investors. Since they are priced in Pounds, this increases demand for Pound Sterling.