Weekly Comment: UK economic growth picks up

Market overview – Richard Carter, Head of Fixed Interest Research

The UK economy grew faster than expected in the first quarter of 2025, with the 0.7% increase the highest GDP growth reading in a year. The figure was a marked increase on the 0.1% expansion seen in the fourth quarter and also topped consensus forecasts for a 0.6% rise. The services sector and an increase in investment were key driving forces, according to the ONS (Office for National Statistics), while there was also a positive contribution from net trade — likely inflated by some front-running of US trade tariffs. The pace of expansion was comfortably higher than the equivalent readings in the Eurozone (0.3%) and US (-0.1%).

However, a number of caveats should be added to the data for the appropriate context. Although the strong reading is welcome, it does come after successive quarters of meagre growth since last year’s general election. There is also the adverse impact that will be felt next quarter for businesses due to higher national insurance contributions and the increased minimum wage.

Perhaps, most importantly, the reading is also from before the US announced largescale tariffs in early April and while the UK-US trade deal means that these levies will not be as detrimental as they could have been, they still represent a less favourable trading relationship than previously. Also, the boost from trade in the Q1 numbers was due in part to bringing forward transactions to avoid incoming tariffs, and this will likely fade or even reverse in the next quarter.

There has been a cooling of the UK labour market of late with the unemployment rate ticking up to 4.5% from 4.4% in the three months through March. Although this reading is relatively low from a longer-term historical perspective, it does still represent the highest level in several years and is a notable increase from the post-pandemic low of 3.5% in October 2022. Pay growth is still running high, with private sector wages (ex-bonuses) up 5.6% annually, but this is slowing slightly and lowest reading since November 2024.

The concern is that this mix of relatively high wage growth and a softening of other employment figures is potentially stagflationary. At a Bank of England conference last week, two members of the Monetary Policy Committee who voted to lower interest rates at its most recent meeting — Clare Lombardelli and Megan Greene — discussed persistent inflationary pressures in the labour market and suggested caution may be warranted on further rate cuts in the absence of falling inflation.

Weekly economic announcements:

Last week the MSCI All Country World index (MSCI ACWI) gained 4.1% (5.6% YTD) on the back of the de-escalation announcement in US and Chinese tariffs. 

United States:

US equities outperformed on the week, adding 5.3% (1.8% YTD) to move back into positive territory for 2025. Growth shares strongly outperformed value stocks, while small caps underperformed large caps. Tech-based benchmarks enjoyed a strong return, rising 7.2% on the week (-0.2%).

The latest inflation data showed the US consumer price index (CPI) rising 2.3% year-on-year, below estimates of 2.4% and the slowest pace in four years. There was also an unexpected decline in the producer price index (PPI) which dropped 0.5% in April from March. The report showed the decline was attributable to falling margins, indicating that companies are absorbing higher costs from tariffs.

After markets closed on Friday, Moody’s cut its credit rating on the US by one notch, to Aa1 from Aaa citing concerns on the US’s fiscal trajectory. The move away from triple-A status came with a warning on rising levels of government debt and a widening budget deficit, and follows move by the other main rating agencies, Fitch and S&P, to downgrade the US. The move means that for the first time on record the US does not hold a triple-A credit rating from one of the three big agencies, after S&P in 2011 and Fitch in 2023, took away the pristine rating.

United Kingdom:

UK large-cap stock indices added 1.8% on the week (8.1% YTD) as mid-caps outperformed to rise 2.4% (3.1% YTD). The pound was little changed against the US dollar and the exchange rate continues to hover around the top of its 12-month range, ending at US$1.33. The 10-year gilt yield rose 8 basis points (0.08%) on the week to close at 4.65%.

Europe (ex UK):

Stock markets in continental Europe also gained on the positive tariff news, with the MSCI Europe ex UK ending the week up 2.3% (10.9% YTD). German benchmarks added 1.1% (19.4% YTD), French indices rose 2.3% (8.8% YTD) and Italian bourses climbed 3.3% (20.5% YTD). The euro dipped against the US dollar to US$1.12.

Approver: Quilter Cheviot, 21 May 2025  

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