London Daily

Focus on the big picture.
Tuesday, Jul 22, 2025

Economy is almost certainly in recession and the picture ahead is murky

Economy is almost certainly in recession and the picture ahead is murky

This is a recession which will be felt in most households' pockets - both through the rise in energy prices and shop prices and the rise in the cost of borrowing.

Let's start with what we do know.

The economy is now almost certainly in recession. It will not be pleasant. This is a recession which will be felt in most households' pockets - both through the rise in energy prices and shop prices and the rise in the cost of borrowing.

And when it comes to the cost of borrowing, things are certainly getting tougher. Today the Bank of England raised its official interest rates by 0.75 percentage points, meaning if you're on a floating rate loan tied to Bank rate the increase will be immediately reflected in your monthly repayments.

In a sense, the Bank is merely doing what most people had expected and what markets had already priced in: in other words, the current fixed rate loans out there on the market already assumed something like this happening.

Remember that point: we'll come back to it.

So we know the economy is in recession. We know prices are very high and times are looking tough - especially if you have a mortgage which needs to be re-fixed soon. But here's where the certainty ends and the murkiness begins.

Normally the Bank of England produces one main forecast in its Monetary Policy Report - the quarterly document in which it gives its sense of the state of the economy. But this time around it did something unusual: it produced two, and gave quite a lot of prominence to both of them.

A money market rollercoaster


Why? Well, it comes back to the fact that money markets have been on a rollercoaster recently. As you'll recall if you've followed the ride, in the wake of the mini-budget, expectations for where the Bank's interest rate was going next year leapt up to over 6%. Since Liz Truss's exit, those expected rates have begun to fall, to the extent that as of this week they were expecting a peak of 4.75%. That's a big change.

And these numbers matter enormously: the higher the rates, the more households who will struggle to make their repayments and the tougher life will get for businesses, many of which will struggle to operate. So even a change of a few fractions of a percentage point will make a big difference.

Eight successive quarters of contraction


That brings us back to the Bank's latest forecasts. It has to base those forecasts for the state of the economy off an assumption of what's happening to those interest rates. So it typically takes a two week "snapshot" of what money markets expect for borrowing rates and then builds a forecast around it.

Normally that's a pretty uncontroversial exercise, but not this time. Because as we all know, those rates were all over the place following the mini-budget and the ensuing gilt market meltdown.

The upshot is that the Bank's central forecast - the one we usually look at - is particularly bad.

It involves eight successive quarters of contraction: that would be the single longest recession since comparable records began in the early 20th century - though it would be much less deep than nearly all of those downturns. It would see the economy shrink by nearly 3% and unemployment get up to 6.5%.

But here's the thing: that forecast is based on market expectations that Bank rate would get up to 5.25% next year. And the Bank is unusually explicit today that it thinks that is very unlikely. So that recession forecast is a little bit of a chimera: it is based on a scenario which will probably not happen.

So here's where that other forecast comes in.

The Bank produced a separate set of figures which ignore all that market mayhem and just imagine rates stay where they are, as of this afternoon, at 3% in perpetuity.

On the basis of that forecast, there is still a recession, but it is barely more than half the depth of its central forecast and doesn't last half as long. Unemployment doesn't peak as high. Household income isn't quite as badly hit. It's tough, but not awful.



More rate rises


So: is that forecast a more reliable picture of the impending months? Well, not necessarily, for two reasons.

First, the Bank said explicitly today that it thinks it will have to raise interest rates again, albeit not as high as markets were expecting a few weeks ago.

What that means is anyone's guess, but the signal is that they might not even have to rise as high as the 4.75% markets are currently pricing in. But that does mean a slightly worse outlook.

Second, the Bank's forecast doesn't make any assumptions about what the government's Autumn Statement is going to do to the economy. And given everyone expects the government to cut spending and/or raise taxes, it's a fair assumption that that could also bear down on economic activity.

It's complicated


So, as you can see: it's complicated. I know that's not especially helpful if you're after a quick summary. But it's a fairer reflection of where we are.

The UK is in recession, but it's worth being a little wary of the more lurid headlines out there about how it's the "longest in history". The Bank is saying that's a possibility if rates went higher (and it doesn't currently think they will).

But there is another interesting thing going on here, which comes back to that point I made at the start - that when the Bank moves its rates it is, in a sense, reflecting what people out there in the market are expecting it to do. Those expectations matter - and the Bank can often influence them itself.

Today's Monetary Policy Report contains some pretty heavy hints that the market has overshot its expectations about where Bank rate will go in the future. In other words, the report itself could plausibly persuade investors to notch down their expectations for where interest rates are heading next year.

If that happened, we would be left with an interesting paradox: that even as it raises interest rates even more than it has ever done since it became independent in 1997, the Bank could actually push down what markets expect that eventual peak to be.

In other words, this interest rate increase could be reducing the real-life cost of borrowing in the mortgage markets. Fixed rate loans could get cheaper as a result of today's events, not more expensive.

Perhaps that sounds topsy-turvy, but then it's no more weird than many of the other turns of this rollercoaster in recent weeks.

Newsletter

Related Articles

0:00
0:00
Close
US Treasury Secretary Calls for Institutional Review of Federal Reserve Amid AI‑Driven Growth Expectations
UK Government Considers Dropping Demand for Apple Encryption Backdoor
Severe Flooding in South Korea Claims Lives Amid Ongoing Rescue Operations
Japanese Man Discovers Family Connection Through DNA Testing After Decades of Separation
Russia Signals Openness to Ukraine Peace Talks Amid Escalating Drone Warfare
Switzerland Implements Ban on Mammography Screening
Japanese Prime Minister Vows to Stay After Coalition Loses Upper House Majority
Pogacar Extends Dominance with Stage Fifteen Triumph at Tour de France
CEO Resigns Amid Controversy Over Relationship with HR Executive
Man Dies After Being Pulled Into MRI Machine Due to Metal Chain in New York Clinic
NVIDIA Achieves $4 Trillion Valuation Amid AI Demand
US Revokes Visas of Brazilian Corrupted Judges Amid Fake Bolsonaro Investigation
U.S. Congress Approves Rescissions Act Cutting Federal Funding for NPR and PBS
North Korea Restricts Foreign Tourist Access to New Seaside Resort
Brazil's Supreme Court Imposes Radical Restrictions on Former President Bolsonaro
Centrist Criticism of von der Leyen Resurfaces as she Survives EU Confidence Vote
Judge Criticizes DOJ Over Secrecy in Dropping Charges Against Gang Leader
Apple Closes $16.5 Billion Tax Dispute With Ireland
Von der Leyen Faces Setback Over €2 Trillion EU Budget Proposal
UK and Germany Collaborate on Global Military Equipment Sales
Trump Plans Over 10% Tariffs on African and Caribbean Nations
Flying Taxi CEO Reclaims Billionaire Status After Stock Surge
Epstein Files Deepen Republican Party Divide
Zuckerberg Faces $8 Billion Privacy Lawsuit From Meta Shareholders
FIFA Pressured to Rethink World Cup Calendar Due to Climate Change
SpaceX Nears $400 Billion Valuation With New Share Sale
Microsoft, US Lab to Use AI for Faster Nuclear Plant Licensing
Trump Walks Back Talk of Firing Fed Chair Jerome Powell
Zelensky Reshuffles Cabinet to Win Support at Home and in Washington
"Can You Hit Moscow?" Trump Asked Zelensky To Make Putin "Feel The Pain"
Irish Tech Worker Detained 100 days by US Authorities for Overstaying Visa
Dimon Warns on Fed Independence as Trump Administration Eyes Powell’s Succession
Church of England Removes 1991 Sexuality Guidelines from Clergy Selection
Superman Franchise Achieves Success with Latest Release
Hungary's Viktor Orban Rejects Agreements on Illegal Migration
Jeff Bezos Considers Purchasing Condé Nast as a Wedding Gift
Ghislaine Maxwell Says She’s Ready to Testify Before Congress on Epstein’s Criminal Empire
Bal des Pompiers: A Celebration of Community and Firefighter Culture in France
FBI Chief Kash Patel Denies Resignation Speculations Amid Epstein List Controversy
Air India Pilot’s Mental Health Records Under Scrutiny
Google Secures Windsurf AI Coding Team in $2.4 Billion Licence Deal
Jamie Dimon Warns Europe Is Losing Global Competitiveness and Flags Market Complacency
South African Police Minister Suspended Amid Organised Crime Allegations
Nvidia CEO Claims Chinese Military Reluctance to Use US AI Technology
Hong Kong Advances Digital Asset Strategy to Address Economic Challenges
Australia Rules Out Pre‑commitment of Troops, Reinforces Defence Posture Amid US‑China Tensions
Martha Wells Says Humanity Still Far from True Artificial Intelligence
Nvidia Becomes World’s First Four‑Trillion‑Dollar Company Amid AI Boom
U.S. Resumes Deportations to Third Countries After Supreme Court Ruling
Excavation Begins at Site of Mass Grave for Children at Former Irish Institution
×