What to Expect From the UK Budget

Bruna Skarica · Morgan Stanley

UK fiscal consolidation is well advanced: primary deficit just under 1% of GDP, below peers.

Morgan Stanley expects the UK primary deficit, meaning spending excluding debt interest minus tax receipts, to be just under 1% of GDP in the 2026-27 fiscal year. The IMF puts it a little above 1%. Peers are much weaker: the IMF sees France's primary deficit at 2.9% and the US measure at 4.9% this year. The UK has therefore already made a lot of progress on its consolidation path, even though the medium-term framework targets current budget balance in year three.

“We think that in this fiscal year, [2026-27], primary deficit, our entire expenditure outside debt servicing costs minus tax receipts, we see that at just under 1% of GDP.”at 2:28

Bruna Skarica · Morgan Stanley

UK budget expected to be low-key, with measures of about £10bn, far smaller than the 2024 and 2025 budgets.

Morgan Stanley expects a relatively low-key budget, with the scale of measures at around £10bn. That is much more moderate than the October 2024 and November 2025 budgets. The market will focus on the scale of support for households against higher energy-driven inflation, and on how much headline inflation falls. Higher-level announcements are still possible, including a devolution roadmap.

“We're expecting a relatively low key budget. So the scale of measures at around £10,000,000,000”at 3:28

Bruna Skarica · Morgan Stanley

UK growth beat in H1 on a tech-led AI boom; full-year UK growth forecast at 1.3%.

UK growth outperformed in the first half of the year. This matches Morgan Stanley's long-standing thesis that the UK should benefit from the global AI boom, with the tech sector as the main source of the upside surprise, running at 8% year on year. Growth is forecast at 1.3% for this year, but that is only about 30 basis points above the forecast from a couple of months ago, before the energy shock began. US growth is still stronger, at 2.3% in the US team's forecast.

“In line with our long standing thesis that UK ought to be a beneficiary of the global AI boom, the main driver of the upside surprise has been the tech sector. It's running at 8% year on year this year.”at 4:30

Bruna Skarica · Morgan Stanley

UK consumer spending is resilient because household and corporate balance sheets are clean and buffer energy shocks.

Consumer spending has grown a bit faster than expected. Morgan Stanley links this to clean household and corporate balance sheets, which provide a large buffer against one-off energy shocks. UK consumers also hold elevated savings and savings stocks. When energy costs rose in the first half, households reduced the level of savings they wanted to hold, which let them keep spending.

“And again, this reflects, we think, our long standing thesis on fairly clean household, but also corporate balance sheets, I should mention, that tend to provide a fairly big buffer in one off energy shocks.”at 4:55

Bruna Skarica · Morgan Stanley

UK productivity growth is healthy and close to the US, so pessimism about UK potential growth is overdone.

Morgan Stanley is more constructive than the average forecaster on UK potential growth. Private-sector productivity growth is 1.8%, compared with a bit above 2% for the US in the second quarter, so the two are not very different. Investor pessimism about potential growth is what drives the view that an energy shock becomes embedded in inflation for longer, because spare capacity is tight. Europe's sentiment has yet to shift toward how much growth can come from adopting AI.

“We're pointing to healthy productivity growth performance in The UK, private sector printing productivity growth at 1.8%, whereas in The US this figure is a bit above 2% over the second quarter this year.”at 6:21

Bruna Skarica · Morgan Stanley

The energy shock won't force material Bank Rate changes, while markets are pricing in hikes.

Morgan Stanley argues the UK economy has enough spare capacity for the energy shock to pass without material changes to Bank Rate. The market is still pricing in hikes, and investors are increasingly discussing scenarios in which they are delivered. The transcript also says Morgan Stanley is 'expecting two hikes', which conflicts with the no-material-adjustment view and may be a transcription error, so the Bank Rate call is not fully clear.

“We think the economy has enough spare capacity for this energy shock to come and go without material adjustments in the bank rate.”at 7:06