Themen:
Insights
27 January 2025
Although the recent volatility in UK markets looks set to continue in 2025, along with fiscal challenges and sticky inflation, Sanjay Raja, Deutsche Bank’s Chief UK Economist, speaking at the recent dbAccess UK & Ireland conference, said there will be growth, and interest rates will continue to fall.
With a challenging backdrop to the UK economy, Sanjay Raja, Deutsche Bank’s Chief UK Economist, used his presentation to sprinkle some cautious optimism.
Gilt volatility to continue, but there is no crisis
The recent volatility in UK markets, and gilts in particular, has caused unease among clients, Raja said, but in his view, the recent market turmoil should not be seen as a crisis, nor as the market issuing a harsh judgement on the Government’s policies. “Is this a crisis of confidence in the UK? A market referendum on Rachel Reeves or on the Treasury?” he asked, and answered firmly: “No, that is not the case.” The sharp rise in UK gilt yields reflected its correlation with US Treasuries, he said, and were indicative of a global problem, not a uniquely British challenge.
On the downside, however, volatility in markets was likely to be a continuing feature in markets during 2025 for three key reasons. The first is the UK’s current account deficit, which is the largest in the G7 after that of the US, leaving the UK dependent on “the kindness of strangers”.
The second is the UK’s difficult fiscal position, partly stemming from the Autumn Budget, which made clear there would be a need for an extra £40 billion in gilt issuance every year for the next five years. Raja described this as unprecedented outside a period of major crisis such as Covid. However, he again emphasised that this was not a uniquely UK challenge, with European economies and the US also needing to issue increased sovereign debt. “We are seeing a glut of issuance,” he said, adding: “The era of high issuance and high debt is not going away.”
The third factor that would drive volatility is a more distinctly UK issue: who buys UK gilts? “10-15 years ago, it was pension funds and UK institutions buying gilts and they were happy to sit back while yields went up and down. Back then they were buying three-quarters of Debt Management Office issuance. Now that is down to 20%.” He also pointed out that 30% of gilts are held by hedge funds. This international ownership of gilts, including by agile investors, could contribute to volatility over the coming year, Raja warned.
Inflation, but not stagnation
The macro-economic outlook for the UK has become less positive over recent months, according to Raja. The first negative factor for the UK economy was the election of Donald Trump and the threat that tariffs that could damage international trade.
The second was the inaugural Budget of the Labour Government, unveiled in the autumn. Inflation risks have grown slightly, due in part to the National Insurance rises in the Budget and increases to the minimum wage. “We expect inflation to be a little bit north of 3% in 2025, up from 2.4% since the Budget” Raja said.
However, the UK will still achieve growth in 2025, he continued. Deutsche Bank’s current forecast is for UK GDP growth of 1.3% in 2025, slightly lower that the Bank of England's 1.5% forecast and the 2% expected by the Office for Budget Responsibility.
Stagnation will be avoided thanks to a handful of positives for the UK, said Raja. Business investment continues, though at a lower rate than previously. Meanwhile, the UK enjoys a trade surplus in services with the US, which will be more insulated than goods from any Trump trade policies. Finally, rising UK government spending will provide some upside to growth.
However, as government spending and gilt yields have risen, the Chancellor’s fiscal challenge has grown. “Two and half months ago, Rachel Reeves had £10 billion of fiscal headroom. On our projections, she now has a shortfall of £3.6 billion,” Raja said.
Precisely what this would mean is unknown, he added, though the broad picture is clear: “There is going to be fiscal consolidation. The questions are the scale and the timing.”
Rate cuts to be slower than expected
On the key metric of interest rates, Raja said the immediate outlook was less promising than many expected, but the issue was one of pace, not scale.
“The consensus is that there will be four rate cuts this year, and we agree with that. But we only expect one cut in the first half of this year, as inflation and wage effects will constrain the Bank of England,” Raja said.
Cuts will therefore be more ‘backloaded’ in 2025 and inflation may take until 2026 to come back to the Bank of England’s target of 2%. The bank rate will eventually come down to 3.25% in early 2026, on Deutsche Bank forecasts.
So, while cautious on the timing, Raja concluded on a positive note: “The good news is that we see this as a temporary pause.”
The Deutsche Bank and Deutsche Numis UK & Ireland Conference is part of a series of specialist equity events for corporates and investors delivered by the dbAccess team. For more information, contact dbaccess.ukconference@db.com