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07 Feb 2025

Investec Economic and Property Outlook 2025

Investec explores the outlook for the UK economy and property market in 2025 including interest rates, inflation and policy change.

 

Interest rate cuts are still expected

Market expectations for UK interest rates have shifted. Following the Bank of England’s decision to cut the base rate to 5% in August 2024, markets took the view that rates could fall to around 3.5% by the end of 2025[1]. While it is now thought that the pace of cuts will be considerably slower, the Bank of England cut the Bank rate to 4.5% on 6 February. Investec is predicting three further cuts totalling 100 basis points, taking the base rate to 3.75% by the end of 2025.

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Mortgage rates may not fall as quickly

If the base rate falls more than markets expect, it could lead to further reductions in mortgage interest rates over the coming year. However, mortgage rates are not solely driven by pure UK interest rate expectations. Long-term borrowing costs play a significant role, as approximately 80% of the UK’s mortgage stock is based on fixed-term mortgages of between two and ten years.
As a result, the outlook is influenced by UK gilt yields and broader developments in international bond markets. Currently, rising US Treasury bond yields have contributed to increased long-term borrowing costs in the UK and elsewhere.

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US tariffs may not have a material effect on UK inflation

Trump has begun to impose tariffs on international trading partners. While additional levies of up to 25% have been announced for imports from China, Canada and Mexico, Investec is factoring in that the increase in tariffs on UK imports is likely to be around 10%. Unless the UK imposes considerable retaliatory tariffs on US goods, it is unlikely to have a significant upward impact on UK inflation or the Bank of England's ability to cut interest rates.
However, the threat of tariffs has raised US borrowing costs and affected international bond markets, which could have an indirect impact on mortgage costs.

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The UK economy might grow less than expected

The government aims to achieve UK growth of 2.5% per year in the longer-term, but indicators suggest the economy may have shrunk in the last quarter of 2024[2]. Additionally, employers warn that the increases in National Insurance Contributions from the Autumn Budget, plus the increase in the National Living Wage, could hurt job creation and business confidence.
Therefore, Investec has lowered its UK growth forecast for 2025 from 1.5% to +0.8%. This downgrade is cushioned by increased government spending and strong household income growth of 4.5% year-on-year (Q3 2024), and a household saving ratio of 10%, which is broadly double pre-Covid levels.

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Inflation is on the rise but should come back down

The Bank of England’s inflation target is 2%. Currently, core inflation, which excludes sectors such as food and energy, is at 3.2%. Services inflation is at 4.4% and needs to come down further for the inflation target to be hit sustainably.
Going forward, the outlook for service sector inflation largely depends on the labour market and wage growth. Official data shows pay growth is increasing, but other evidence suggests it may not be as strong, and the Bank of England does expect pay growth to decline.
Overall, we anticipate inflation will rise from 2.5% to above 3% later this year, but levels should ease as service costs stabilise.

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Property sales and prices set to rise

Activity levels and house prices seem set to rise in the UK property market this year. In November 2024, mortgage approvals were up 31% year-on-year, while total transaction volumes were rising by 13%[3]. Against this backdrop, house price inflation is currently running between 3-5%
The lending environment is still challenging, but there are suggestions that regulators could loosen mortgage criteria to drive growth further. Following a meeting between Chancellor Rachel Reeves and regulators in January 2025, it has been suggested that specific regulations that apply to banks could be relaxed to enable buyers to access higher value loans more easily.

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Housebuilding intentions could help too

In its election manifesto, the Labour Party pledged to build 1.5 million homes during this parliament. To achieve this ambitious target, approximately 325,000 new homes will need to be constructed annually during the last four years of the timeframe, which is 67% higher than the current rate. For context, only 193,000 homes were completed in the year ending June 2024.
While this target may seem challenging, building close to 1.5 million homes would still be a significant achievement and could have a major impact on the housing market and the economy.

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Important information:

This article is for general information purposes only and should not be used or relied upon as professional advice. It is advisable to contact a professional advisor if you need financial advice.

 

[1] Source: Investec Economics
[2] Source: ONS, Investec Economics
[3] Source: Bank of England, HMRC, Investec Economics