‘A pretty grim picture’: outlook for UK living standards slashed despite Healey’s budget

The OBR cut its 2027 growth forecast because the war in the Middle East is damaging energy supplies, raising prices and increasing uncertainty. Britain performed better than expected this year, but the watchdog believes that early resilience will not last. Higher energy costs can reduce spending by households and raise costs for businesses.

This year’s forecast rose from 1.1% to 1.2%, helped partly by unexpectedly strong AI investment. Next year’s forecast fell from 1.5% to 1%. The change suggests the OBR expects the conflict’s economic effects to become more powerful over time, especially through oil, gas and borrowing costs.

The downgrade matters because slower growth can weaken living standards, tax receipts and public finances. The OBR also expects inflation to reach close to 4%, while household disposable income per person is expected to fall in the short term.

Since the conflict began, oil prices have risen from about $70 a barrel to more than $115. Gas prices have almost tripled. These are large movements because energy is a basic input for households and businesses. Changes in energy prices can therefore affect heating, transport, production and delivery costs.

For households, dearer gas can raise energy bills, while dearer oil can increase the cost of travel and goods moved by road. For businesses, energy and transport become more expensive. Firms may pass those costs to customers, reduce investment or face lower profits. The article links the shock to energy flows being throttled in the region.

The effect is national because the prices feed into many parts of the economy, not just fuel markets. The OBR expects inflation of 3.5% this year and says the outlook remains highly uncertain.

Real household disposable income measures the money households have available after taxes and other deductions, adjusted for inflation. The word “real” matters because it removes the effect of rising prices. A household may receive more pounds but still be worse off if food, energy and other costs rise faster.

The measure is especially useful when assessing living standards. It focuses on what households can actually buy or save, rather than only on wages or the size of the economy. The article uses a per-person version, which helps show whether average individuals are gaining, even when population changes affect total income.

The OBR described the outlook as “a pretty grim picture”. Compared with just before Covid, it said real disposable income per person had shown virtually no growth seven years later. It expects incomes to fall in the short term before modest recovery.

Energy prices affect inflation because oil and gas are used directly by households and indirectly throughout the economy. Higher gas prices can raise heating costs. Higher oil prices can increase transport and delivery costs. Businesses also face more expensive energy for production and services.

The mechanism is straightforward: firms facing higher costs may charge more for their goods and services. Households then pay more for energy and other purchases, leaving less money for non-essential spending or saving. If wages do not rise as quickly as prices, real disposable income falls. This creates pressure on living standards.

The article says consumers could face inflation of 3.5% this year, up from the OBR’s March forecast of 2%. It also expects per-person disposable incomes to fall in the short term. The government’s support measures may cushion the shock, but the pressure is expected to continue.

A fiscal rule is a government’s target for keeping public finances within a specified limit. In this article, the main rule requires day-to-day government spending to be matched by tax receipts in three years’ time. The government keeps headroom below that limit so unexpected costs do not immediately break the rule.

Healey left £15bn of headroom, down from the £23.6bn left by Rachel Reeves in the spring. The reduction means the government is using more of its available room to fund policies, including energy support. It also leaves a smaller cushion against weaker growth, higher interest costs or a more damaging energy shock.

The OBR said borrowing should fall to about 2% of GDP in the medium term, but more slowly in the near term. It warned that a higher, sustained energy-price peak could add £17bn to borrowing next year, making the smaller margin more significant.

Borrowing and debt interest are different parts of the public finances. Borrowing is the new money the government needs when spending exceeds receipts. Debt interest is the cost of servicing debt already accumulated. A government can reduce new borrowing while still paying more interest if market rates or other borrowing costs rise.

The article links the increase to the financial-market fallout from Donald Trump’s war in the Gulf. The conflict pushed up borrowing costs for governments worldwide. That means refinancing existing debt or issuing new debt can become more expensive, even if the government is following a plan to reduce borrowing over time.

Healey said the exchequer was spending £14bn more on debt interest. This increase worsens the public finances because money used for interest cannot fund other priorities. It also helped persuade him to use more of his fiscal-rule headroom, reducing the buffer from £23.6bn to £15bn.

An economy can grow without making the average person much better off. Growth measures the value of goods and services produced. Real household disposable income per person measures what individuals have left after taxes and inflation. These measures can move differently when investment, population, prices or the distribution of income changes.

In the article, AI-related business activity helped drive stronger growth. Yet higher energy costs and inflation put pressure on household budgets. If prices rise quickly, money incomes may increase without buying much more. A growing population can also lift total economic output while leaving output or disposable income per person almost unchanged.

The OBR said that, seven years after the pre-Covid period, there had been virtually no growth in per-person real household disposable income. It expects incomes to fall in the short term, then rise modestly, leaving levels only about 2% above pre-pandemic levels by the early 2030s.