OECD: Government spending to fuel UK economy this year as business investment falls

The UK economy’s growth forecast has been moderately upgraded as an expansion in GDP this year is set to be fuelled by high government expenditure, according to the world’s top independent economic organisation. 

The OECD, the Organisation for Economic Co-operation and Development for long, said public expenditure would “support the economy” even as consumer spending and business investment is set to weaken. 

The Paris-based think tank said growth this year would be 0.9 per cent, slightly higher than its previous estimate of 0.7 per cent. 

The UK economy’s growth next year is expected to pick up to 1.1 per cent, which would also be lower than the growth rate for 2025 of 1.4 per cent. 

Government spending is set to outpace other drivers of GDP growth, with public sector consumption set to rise by 1.7 per cent this year compared to a rise in private consumption of 0.4 per cent. 

Business investment, as measured by fixed capital formation, will post zero growth this year, forecasts showed, after a rise of 4.3 per cent last year. 

By contributions to GDP growth and factoring in its size relative to total consumption across the UK economy, government expenditure is set to be the largest driver of growth in 2027 and the second-largest this year after stock building in response to the Iran war.

Economists added that people’s disposable income would stagnate as inflation is expected to hit 3.7 per cent this year. 

The inflation forecast for the UK economy was the same as that given to the US, and it was higher than for all other G7 nations. Core inflation, which strips out food and energy, was revised up from the March estimate of 2.8 per cent to 3.1 per cent. 

The UK was singled out as being particularly vulnerable to the energy price shock caused by the Iran war, which has dragged out as peace negotiations have failed to materialise into an agreement. 

UK economy’s jobs conundrum

In a further headache for Labour officials the OECD said the UK unemployment rate would reach as high as 5.5 per cent this year, which would be an 11-year high. 

Economists at the organisation urged the government to press ahead with planning reform and building key infrastructure, including an expansion of the national grid’s capacity, were cited as “essential” measures to protect the UK from surging energy bills and to improve growth prospects. 

The think tank warned the government it should push to protect UK public finances by looking to hike taxes and deliver spending cuts, with fiscal policy to “remain restrictive” as a result of higher borrowing costs and rising public debt. 

As a result of constraints on Chancellor Rachel Reeves, she may not be able to “attenuate the impact of higher energy prices on low-income households” despite a previous commitment.

Volatile price expectations, spiralling wages and limited fertiliser supplies could lead to a bigger surge in inflation than currently expected, adding to pressures on the UK economy. The OECD said the Bank of England would keep interest rates at 3.75 per cent for the rest of this year due to the weakened labour market.  

Responding to the figures, Reeves said: “The conflict in the Middle East poses a significant challenge to the world economy.”

She added the government had “the right economic plan” and “changing course would put that progress at risk, with families and businesses paying the price”.

“Through stability, investment and reform we will build a stronger more secure Britain.”