Monetary Policy Report - August 2025

1: The economic outlook

1.1: The conditioning assumptions underlying the MPC’s baseline projections

As set out in Table 1.B, the MPC’s August baseline projections are conditioned on:

• The paths for policy rates in advanced economies implied by financial markets, as captured in the 15 working day averages of forward interest rates to 29 July (Chart 2.3). The market-implied path for Bank Rate underpinning the August projections declines to 3½% by 2026 Q2, similar to the profile at the time of the May Report.
• A path for the sterling effective exchange rate index that is around ¾% higher compared with the May Report. The exchange rate depreciates slightly over the forecast period, reflecting the role of expected interest rate differentials in the Committee’s conditioning assumption.
• Wholesale energy prices that follow their respective futures curves over the forecast period. Oil and gas prices have ended the period since May slightly higher than their levels at the time of the previous Report (Section 2.1). Significant uncertainty remains around the outlook for wholesale energy prices (Box D).
• UK household energy prices that move in line with Bank staff estimates of the Ofgem price cap implied by the paths of wholesale gas and electricity prices (Section 2.5).
• UK fiscal policy that evolves in line with government policies to date, as announced in Spring Statement 2025.
• Global and UK trade policies in place as of 29 July, which are consistent with a somewhat lower US effective tariff rate than at the time of the May Report (Section 2.1). These policies are assumed to continue throughout the forecast period. There has been a range of announced policy changes that are yet to be implemented and so have not been included in the baseline projections. These include the agreement between the US and EU announced on 27 July. And, on 1 August, the US announced increases in tariffs on a number of countries, excluding the UK, due to take effect on 8 August.
• The growth in the size and composition of the 16+ population implied by the ONS’s 2022-based migration category variant national population projections, which is weaker than the previous assumption incorporated in the May Report that was based on the principal version of those projections. These population projections do not include the England and Wales mid-year population estimates published on 30 July.

1.2: Key judgements and risks

1.2: Key judgement 1

The path of disinflation in underlying domestic price and wage pressures has generally continued, albeit to different degrees. While headline inflation is projected to rise slightly further in the near term, to around 3¾% over the second half of this year, the baseline projection assumes that this will not lead to additional second-round effects on domestic inflationary pressures.

There has been substantial disinflation over the past two and a half years, following previous external shocks, supported by the restrictive stance of monetary policy. That progress has allowed for reductions in Bank Rate over the past year. The Committee remains focused on squeezing out any existing or emerging persistent inflationary pressures.

Twelve-month CPI inflation averaged 3.5% in 2025 Q2. This was 0.1 percentage points above expectations at the time of the May Report and an increase from 2.8% in Q1 (Section 2.5). Around half of this rise in the second quarter was accounted for by an expected reduction in the extent to which energy prices have been dragging on headline inflation. The contribution of administered prices to inflation has increased, while food price inflation has also picked up by more than anticipated (Box E).

The latest accumulation of evidence suggests disinflation in underlying domestic price and wage pressures has generally continued, although with greater signs of progress in declining pay growth than in developments in services price inflation. CPI inflation excluding energy picked up slightly to around 3¾% in Q2 (Chart 1.1).

Services consumer price inflation has remained at around 4.7% over recent months, slightly higher than expected at the time of the May Report. The still-elevated rate of services inflation reflects past strength in wage growth as well as temporary upward pressure from one-off increases in administered prices and the increase in employer NICs. Underlying services price inflation has continued to moderate across a range of measures, although progress in recent months has been slower than last year according to a measure excluding indexed and volatile components, rents and foreign holidays (Chart 2.20). Even after accounting for respective administered price changes recently, UK services inflation has remained significantly higher than services inflation in the euro area (Section 2.5), suggesting that price-setting in the UK has not yet fully normalised to a target-consistent path.

Wage growth has declined further recently, to around 5%. Annual private sector regular average weekly earnings growth fell to 4.9% in the three months to May, weaker than expected in the May Report. This is now broadly in line with Bank staff’s estimate of the underlying rate of pay growth. Nevertheless, pay growth has remained higher than can be explained by its usual economic determinants.

Private sector regular pay growth is expected to slow further by the end of 2025, to 3¾%. In contrast, annual services inflation is projected to rise slightly over the remainder of the year, in part reflecting continued upward pressure from non-wage labour costs, before falling back in 2026.

There is uncertainty around the path of services inflation over coming quarters, including the extent to which weaker pay growth will over time feed through to lower services inflation, and the extent to which services inflation may continue to be boosted by other factors such as administered prices. There is little evidence so far that the empirical relationship between services inflation and wages has broken down, or that aggregate measures of profit margins are increasing. However, consumer-facing services businesses responding to the Decision Maker Panel (DMP) Survey continue to expect some increase in price inflation over the year ahead. And DMP firms’ own-price expectations have remained more sensitive to changes in aggregate CPI inflation than prior to 2022. The near-term rise in headline inflation could therefore affect price-setting behaviour, even while a weaker labour market means wage-setting is unaffected.

In the August Report baseline projection, CPI inflation is projected to rise slightly further, to around 3¾% over the second half of this year, with a peak of 4.0% in September, which is a slightly higher profile than in the May Report. This pickup reflects some near-term upward pressure on inflation from energy, food and services prices, offset by a slight decline in projected core goods inflation.

The near-term strength in CPI inflation is still expected to be temporary. This in part reflects the Committee’s continuing judgement in the baseline forecast that recent developments are assumed not to lead to additional second-round effects on underlying domestic inflationary pressures, beyond those that would typically be expected to occur and in contrast to the more persistent dynamics in the inflation generating process that occurred following the very large shocks in 2021–22. In this forecast, the Committee has also maintained its judgement on the speed with which overall excess domestic inflationary pressures are expected to dissipate in the medium term (Key judgement 3). There remains significant uncertainty around these judgements, however, and the MPC judges that the upside risks around medium-term inflationary pressures have moved slightly higher since May.

1.2: Key judgement 2

A margin of spare capacity is estimated to have opened up in the UK economy and the labour market is continuing to loosen gradually. This margin of excess supply is expected to build a little further, before narrowing from the end of next year onwards.

UK quarterly GDP growth is estimated to have been 0.1% in 2025 Q2, on both a headline and underlying basis (Section 2.3). Growth is expected to pick up a little in the near term, reflecting a modest improvement in survey indicators of output.

Underlying employment growth has been around zero over recent quarters, somewhat weaker than implied by past developments in underlying GDP growth (Chart 2.11). This is in part likely to have reflected recent increases in firms’ total labour costs, which may have affected employment to a slightly greater degree than previously anticipated. Survey indicators of employment intentions have remained weak.

Consistent with the weakness of employment growth, the labour market has continued to loosen gradually (Section 2.4). The LFS unemployment rate rose to 4.7% in the three months to May. The ratio of vacancies to unemployment has fallen further and is judged to be somewhat below its equilibrium level. In addition, surveys of capacity utilisation suggest growing spare capacity within firms.

Bank staff have reassessed the extent to which weakness in productivity growth in 2023 and 2024 has been matched by lower potential productivity growth. As outlined in Box E of the February Report, potential productivity had appeared to be notably weaker last year than could be explained by factors such as the impacts of past events, notably Brexit and the pandemic. Based on new analysis that adjusts measured productivity growth for erratic and volatile components of GDP, measurement error in hours worked and variations in capacity utilisation, potential productivity growth is now judged to have been somewhat less weak over recent years, and potential labour supply growth somewhat lower. Taken together, this pushes up on past supply growth and is consistent with a margin of spare capacity having opened up slightly earlier than in the May projection.

Overall, a small margin of spare capacity is now estimated to have opened up in the economy from the start of 2024, reaching around ½% of potential GDP by the middle of 2025. The MPC continues to recognise the significant uncertainty around estimates of the current degree of slack in the economy. For example, developments in the labour market and in capacity utilisation would suggest a wider margin of excess supply, whereas models of the output gap based on nominal dynamics could suggest that the economy has a margin of excess demand currently. This highlights a tension between the possibility of greater spare capacity and the persistently high rate of domestic inflation.

The medium-term outlook for UK activity will be determined by both global and domestic factors.

As set out in Box C of the May Report, recent global trade policy developments are likely to reduce UK GDP growth relative to the trade policies in place prior to this year. However, the trade policies in place on 29 July, which are assumed in the August Report projections to continue over the forecast period, are consistent with a somewhat lower US effective tariff rate than at the time of the May Report. Global trade policy uncertainty has also fallen back over recent months, though at a similar pace to the assumption underpinning the May Report projections prior to the most recent trade policy developments. Since May, volatility in financial markets has declined and global equity prices have risen.

Reflecting these developments, UK-weighted world GDP growth is expected to weaken by slightly less in the near term in the August baseline forecast than in the May forecast. Four-quarter world growth falls back to around 1¾% this year and next, before rising to 2¼% in 2027. Conditioned on trade policies as of 29 July, near-term growth is projected to be stronger in the United States and China than in the May Report. The outlook for euro-area GDP growth is broadly unchanged from May.

Box A sets out the Committee’s latest assessment of the restrictiveness of the UK monetary policy stance. Reflecting the usual lags of policy, past restrictiveness is estimated to be weighing on the current level of demand, which will contribute to the disinflationary process. A range of more forward-looking estimates, based on real interest rate gaps, suggest that the degree of restrictiveness has fallen to some extent over the past 18 months. Based on the market curve conditioning assumption, restrictiveness is judged likely to wane to some extent over the forecast period.

The August baseline forecast includes a small near-term boost to activity from recent changes in mortgage market regulation, including changes to the implementation of the FPC’s loan to income (LTI) flow limit to allow individual lenders to increase their share of lending at high LTIs while aiming to ensure the aggregate flow remained consistent with the limit of 15%.

Based on the Government’s plans set out in Spring Statement 2025, the overall stance of fiscal policy is tightening materially over the MPC’s forecast period. All else equal, this pulls down on the baseline GDP growth and output gap projections, particularly over the next year.

Four-quarter potential supply growth is projected to weaken slightly in the middle of the forecast period, before recovering to around 1½% in the medium term. This is slightly weaker beyond the near term than in the May Report, reflecting the lower assumed path of population growth (Section 1.1).

In the August baseline projection, four-quarter GDP growth is projected to remain close to its recent average level, of around 1¼%, before picking up in the second half of the forecast period (Chart 1.2). This forecast remains dependent on a sustained fall in the household saving ratio to under 8% in the medium term from over 10% currently. As a result, beyond the near term, consumption growth is projected to pick up to a greater degree than GDP growth, to around 2¼% on an annual basis by the end of the forecast period. There remains considerable uncertainty over this projection, as discussed below, and previous projections of material declines in the saving ratio have so far largely failed to materialise.

Reflecting the paths of GDP and potential supply, the margin of spare capacity in the baseline forecast is expected to widen slightly further over the next year, to just under ¾% of potential GDP in the middle of 2026, before narrowing to close to zero by the end of the forecast period. The impact on demand of the tightening in the stance of fiscal policy, based on the plans set out in the Spring Statement, is the main factor increasing excess supply in the near term. A range of factors is expected to reduce excess supply further out, including the impact on demand of the gradual loosening in the stance of monetary policy embodied in the market path of interest rates. Monetary policy still weighs on the level of demand across the forecast period, however, such that it continues to contribute to the disinflationary process.

Relative to the May baseline projection, there is expected to be a slightly smaller margin of spare capacity throughout most of the forecast period, in part reflecting the Committee’s judgement that the lower assumed path of population growth will put slightly more downward pressure on supply than on demand over coming years.

The unemployment rate is projected to rise gradually to just under 5% by the middle of 2026 (Chart 1.3), above its assumed medium-term equilibrium rate of just over 4½%. Unemployment is slightly lower than in the May Report in the medium term, consistent with the narrower margin of excess supply in the baseline projection.

The Committee judges that the risks around the UK GDP growth projection are somewhat to the downside.

There are risks around the future path of activity, spare capacity and hence inflationary pressures in the medium term (Key judgement 3), reflecting both global and domestic factors.

Box D discusses global uncertainties and their implications for the UK economy, including the risks from potential, but impossible to anticipate, future increases in energy prices, and around global trade policies. There also remain uncertainties around the paths of fiscal policy in Germany, the United States and elsewhere. Overall, there are judged to be downside risks to global activity, which would pass through to UK growth and inflation were they to occur. The scale of the immediate downside risks has diminished since May, however, reflecting the most recent developments in trade policy.

Box A of the May Report set out an alternative scenario in which UK demand is substantially weaker than in the baseline projection. This was based on an additional UK-specific increase in uncertainty, which drags on consumption and investment to a greater extent than the indirect impact on UK growth of elevated global trade policy uncertainty that has already been included in the baseline projection. Although both global and domestic uncertainty appears to have fallen back somewhat since May, there remains a risk that UK domestic demand could be weaker, and the margin of spare capacity wider, than in the baseline projection.

In particular, the MPC continues to see downside risks around consumption growth and upside risks around the path of the saving ratio over the forecast period. These could relate to the continuation of past structural factors, such as the desire for households to build up their savings following the pandemic, that have already pushed up saving by more than expected. Or it could reflect greater precautionary saving behaviour by households than has so far appeared to be occurring. The latter could be triggered by broader downside risks to activity and particularly the risk of more sudden adverse developments in the labour market. This includes the possibility that the impact of the higher labour costs facing companies has a greater impact on their employment decisions. That said, analysis of previous cycles suggests that rapid shake-outs in the labour market have tended to be associated with larger shocks to the economy than have occurred recently, and with a greater pickup in redundancies than has so far appeared to be in train.

Overall, the Committee judges that the risks around the UK GDP growth projection, particularly from domestic factors, are somewhat to the downside. This is also judged to lead to a risk of a greater margin of spare capacity over the forecast period than in the baseline.

1.2: Key judgement 3

Conditioned on the market path of interest rates, the margin of spare capacity in the economy is expected to act against some continuing persistence in domestic prices and wages in order for CPI inflation to fall back to around the 2% target in the medium term.

Domestically, the August forecast for CPI inflation continues to incorporate the effects of a period of economic slack (Key judgement 2), which is required in order for price-setting dynamics to normalise fully. The Committee has not changed its judgement on the speed with which excess domestic inflationary pressures are expected to dissipate in the baseline projection. The continuing second-round effects in the baseline relate in large part to the unwind of the succession of very large external cost shocks in 2021–22, rather than additional second-round effects from the near-term pickup in headline inflation (Key judgement 1).

In terms of global factors affecting the UK, the Committee continues to judge that the overall impact of recent trade policy developments is, on balance, more likely to be disinflationary than inflationary, although the effects incorporated into the August baseline forecast are not large. UK-weighted world export price inflation, excluding the direct effect of oil prices, is expected to turn negative in the near term before recovering into slightly positive territory in the middle of the forecast period. This profile is broadly similar to the path of world prices in the May forecast, though slightly higher reflecting the constellation of trade policies as of 29 July. For that reason and reflecting recent data outturns, UK non-energy import price inflation is projected to be higher in the near term, compared with May. The direct contribution of energy prices to CPI inflation is around zero throughout the forecast period.

In the baseline projection conditioned on the market-implied path of interest rates in the 15 working days to 29 July, CPI inflation falls back gradually to 2.7% in 2026 Q3, and to around the 2% target by 2027 Q2, remaining there in the medium term (Chart 1.4 and Table 1.C). The August CPI projection is somewhat higher than the profile in May during the second year of the forecast period and broadly similar in the medium term. Private sector regular AWE growth is expected to fall to around 3% in the medium term.

The MPC judges that the upside risks around medium-term inflationary pressures have moved slightly higher since May.

There remains considerable uncertainty around the calibration of the Committee’s judgement on the path of second-round effects in domestic prices and wages.

Box A of the May Report set out a scenario in which inflation persistence is greater than assumed in the baseline, in part as the current strength in headline inflation could result in additional second-round effects in domestic wage and price-setting. The scenario also set out how domestic inflationary pressures could be greater if potential productivity growth was materially weaker than in the baseline, and that weakness was not reflected in lower wages. Both of these mechanisms remain relevant for the Committee’s views on the risks to medium-term inflation.

As part of this continuing assessment of these risks, the MPC is monitoring a range of indicators to judge whether inflation expectations remain consistent with meeting the 2% inflation target sustainably in the medium term. Households’ near-term inflation expectations have fallen back slightly recently, although medium-term household measures have continued to increase and are now materially above their historical averages. Businesses’ medium-term CPI inflation expectations have increased slightly since the start of the year, while market-based inflation compensation measures are broadly unchanged.

The Committee is placing particular weight on the extent to which higher CPI inflation, including developments in salient items such as food prices, could affect inflation expectations and add to the persistence of inflationary pressures (Box E). Bank staff analysis based on a machine learning approach suggests that, after falling towards historical averages earlier this year, a measure of the inertial component of inflation reflecting more backward-looking expectations has begun to rise again. Staff analysis also suggests that second-round effects in domestic price and wage-setting, owing to the response of inflation expectations to realised inflation, have historically become stronger when inflation has exceeded a threshold of 3½ to 4%, which is relevant given the near-term path of headline inflation (Key judgement 1).

Conversely, it is possible that the role of household inflation expectations in the wage-setting process could become weaker as the labour market loosens further.

There may still be downside risks to the path of potential productivity over the forecast period, and hence upside risks to wage growth and inflation. But, this risk may have diminished since May, as Bank staff’s assessment of recent potential productivity growth has been revised up, which means that potential productivity is now more explicable by the shocks that have previously affected the economy (Key judgement 2) and there is slightly less of a step change up in expected productivity growth over the forecast period.

In addition, there remains a risk that the economy has been subject to lasting changes in wage and price-setting behaviour following the major supply shocks experienced over previous years, as set out in Box A in the November 2024 Report. The recent and future path for the medium-term equilibrium rate of unemployment could be higher than assumed in the baseline forecast in this case, or because of recent increases in the wedge between wages and total labour costs. These risks would be consistent with greater persistence in inflation.

Box D discusses global uncertainties and their implications for the UK economy, including the risks to UK inflation from potential, but impossible to anticipate, future increases in energy prices, and around global trade policies. There are two-sided risks around the impact of global prices on UK inflation. These relate both to the possibility of new shocks and uncertainties around the impact of existing shocks, such as the extent of the shift in global trade patterns already under way and how this may come to affect external pressures on UK inflation.

Overall, the MPC judges that the upside risks around medium-term inflationary pressures have moved slightly higher since May. This is in part due to the risk of inflation expectations impacting price-setting as illustrated in the inflation persistence scenario set out in the May Report.

2: Current economic conditions

Chart 2.1: In the MPC’s latest projections, underlying GDP growth picks up slightly, the unemployment rate edges higher and CPI inflation rises a little further in 2025 Q3

Near-term projections ^(a)

• Sources: BCC, CBI, Lloyds Business Barometer, ONS, S&P Global and Bank calculations.
• (a) The lighter diamonds show Bank staff’s projections at the time of the May Report. The darker diamonds show Bank staff’s current projections. The azure diamonds in the top panel are Bank staff’s estimates of underlying quarterly GDP growth. Underlying GDP data from 2023 Q3 to 2025 Q1 show in-sample fitted values of a business survey indicator model estimated by Bank staff, and data for 2025 Q2 and 2025 Q3 show out-of-sample projections. The projections for headline GDP growth and the unemployment rate are quarterly and show 2025 Q2 and 2025 Q3 (May projections show 2025 Q1 to 2025 Q3). The projections for CPI inflation are monthly and show July to December 2025 (May projections show April to September 2025). The GDP growth and unemployment rate projections for 2025 Q2 are based on official data to May 2025, while the CPI inflation figures over the same quarter are outturns. Although LFS unemployment data have been reinstated by the ONS, they are badged as official statistics in development and the LFS continues to suffer from low response rates, which can introduce volatility and potentially non-response bias (Box D of the May 2024 Monetary Policy Report).

2.1: Global economy and financial markets

Trade policy announcements in the US and elsewhere are affecting global GDP growth.

Since March, the US Government has announced a series of tariff policy changes for various countries and products.

The baseline projections in this Report are conditioned on the tariff rates implemented as of 29 July, which for the US means an estimated effective tariff rate of around 14%. This is down from the 23% estimate based on trade policies that had been implemented at the time of the May Report, but up from the 2% estimate prior to the policy changes. Tariff rates fell after the May Report as there was a de-escalation of tensions between some countries, particularly the US and China, and trade agreements between others, initially the US and the UK. After that agreement, the estimated effective US tariff rate on the UK fell from 11% estimated at the time of the May Report to 8%–9% now.

There has been a range of announced policy changes that had not been implemented as of 29 July and so were not included in the baseline projections. These include the agreement between the US and EU announced on 27 July. And on 1 August, the US administration announced increases in tariffs on a number of countries, excluding the UK, due to take effect on 7 August. Based on these recent policy announcements, the expected future US effective tariff rate is likely to rise from the level implied by tariffs implemented as of 29 July to around 17%, though remain below the rate at the time of the May Report. Although measures of trade policy uncertainty have fallen back, there remains uncertainty over future trade policies across countries. Box D discusses the sensitivity of the economic outlook to a higher level of global tariffs and to different assumptions around the impact of higher tariffs.

Changes in global trade policy have driven most of the dynamics in global GDP so far this year. Four-quarter UK-weighted global GDP growth fell from 2.2% in 2024 Q4 to 2.1% in 2025 Q1 (Chart 2.2), owing primarily to a 0.1% contraction in US GDP in Q1. Higher frequency trade data suggest that there was greater than anticipated front-loading of imports ahead of US tariff announcements in April (Box C of the May 2025 Monetary Policy Report).

The advance estimate of quarterly growth in US GDP picked up to 0.7% in 2025 Q2, as net trade partially recovered from this front-loading effect, with monthly US goods imports falling back by almost $70 billion in April. Growth in final private domestic demand, which abstracts from some of the volatility from trade policy, slowed in Q2, growing by 0.3%, down from 0.5% in Q1.

Euro-area GDP grew by 0.1% in 2025 Q2, lower than the projection in the May Report. This was driven by an unwinding of a greater-than-expected front-loading of exports in 2025 Q1.

Lower trade barriers than at the time of the May Report, US fiscal stimulus and more accommodative financial conditions in some countries are expected to boost UK-weighted global GDP growth in 2025 H2 compared with the baseline projection in the May Report.

Four-quarter UK-weighted global GDP growth is projected to be 1.6% in 2025 Q3 and 1.4% in 2025 Q4. While this represents a slowing in growth, the projection for 2025 Q3 and Q4 is 0.3 and 0.4 percentage points respectively above the projection at the time of the May Report.

A range of factors, including US trade and fiscal policy and financial conditions in the euro area, account for the upward revision to the near-term global GDP projection. Trade barriers are lower than assumed in the May Report projections. And a recent US bill has introduced a range of tax cuts, which are only partially offset by spending cuts and smaller tax increases. More accommodative financial conditions in the euro area are also expected to raise global growth in the near term. Continued strength in Chinese exports and strong activity in China, supported by domestic policies such as the consumer trade-in programme, are expected to increase global growth in the near term.

Chart 2.2: Global GDP growth is projected to remain below historical norms

Four-quarter UK-weighted global GDP growth with contributions by region ^(a)

• Sources: LSEG Workspace and Bank calculations.
• (a) Refer to footnote (c) of Table 1.D for definition. The figures for 2025 Q2 to 2025 Q4 are Bank staff projections. These projections do not include the advance estimate of US GDP in 2025 Q2 or the preliminary flash estimate of euro-area GDP for the same quarter, as the data were published after the cut-off for incorporation into the forecast. The pink diamonds are the corresponding projections from the May Report.

Despite rises in oil and gas prices following further conflict in the Middle East, current energy prices are now closer to their levels ahead of the May Report.

Military action between Iran and Israel (later joined by the US) in June, led to a rise in spot oil prices, peaking at a little under $80 a barrel, up from a little over $60 at the time of the May Report. Since then, tensions have eased, and spot oil prices have fallen back and averaged a little under $70 a barrel over the 15 working days to 29 July. Oil prices are currently below levels seen at the start of the year reflecting a combination of increased supply from OPEC countries and the expectation of weaker global demand. Liquified natural gas prices similarly increased in June but subsequently fell back. Oil and gas prices have ended the period since May slightly higher than their levels at the time of the previous Report.

The easing in trade restrictions has fed through to stronger global commodity prices and broader financial market conditions.

Reflecting the partial easing in global trade tensions, particularly between the US and China, global non-oil export prices are now expected to be around 1% higher over the forecast period (Section 1). That is primarily because lower tariff rates are expected to raise demand for global exports, particularly as lower tariffs encourage more exports from China to the US, pushing up their prices. Higher global prices are expected to pass through to somewhat higher UK import prices and eventually to consumer goods prices.

Measures of market volatility, including the VIX and MOVE, rose ahead of the May Report, driven by global trade policy announcements in April. But they have since fallen back to their average levels since 2002 (Chart 1.1 of the July 2025 Financial Stability Report). Specific measures of trade policy uncertainty remain elevated but have fallen back markedly from their peaks.

Equity markets have strengthened. The US S&P 500 index has risen by just under 20% since the period leading up to the May Report and the UK FTSE 100 index has also risen over this period, by around 10%. European equities prices have also risen. These rises more than reverse the large falls seen in March and April following the changes in US economic policy. Both the US and UK indices are close to all-time highs.

Corporate bond spreads have tightened in the UK and other countries and are now tighter than their average between 1998 and 2025 across asset classes, reflecting resilient corporate balance sheets (July 2025 Financial Stability Report).

Following the May Report, 10-year gilt yields in the UK are little changed, up by 5 basis points in the 15 working day average to 29 July compared with the 15 working day average to 29 April. There has been a more persistent change in very long-term yields over this period. The spread between 30-year and 10-year government bond yields has risen across countries since January, by around 35 basis points in the UK, 40 basis points in the US and over 50 basis points in Japan. Market intelligence suggests that the key drivers of these moves have been concerns over the long-term sustainability of fiscal policy across advanced economies and declining structural demand for long maturity bonds. Between the 29 July and 5 August, government bond yields fell back a little, driven partly by market reaction to weak US labour market data.

The market-implied paths for future policy rates have changed relatively little since the May Report although they have varied more in the near-term for the US.

The European Central Bank (ECB) Governing Council maintained its deposit facility rate at 2% at its July meeting. Meanwhile, the Federal Reserve’s Federal Open Market Committee maintained the target range for the federal funds rate at 4.25%–4.5% at its July meeting.

After the US announcement of higher tariffs in April, the market-implied paths for future policy rates in advanced economies fell, offsetting some of the expected drag to UK growth and inflation from the greater restrictions on trade. Despite the delay or reduction in US tariff rates after that, and the recovery in risky asset prices, the market-implied paths for future policy rates have changed little since then.

The market-implied path for the UK policy rate is, on average, little changed since the period leading up to the May Report over the next three years. Based on the 15 working day average to 29 July 2025, the market-implied path for Bank Rate fell to around 3.5% by 2026 Q2, before subsequently rising slightly to 3.7% by 2028 Q2 (Chart 2.3). The market-implied path of future ECB policy rates over the same period had risen by a little under 10 basis points on average over the next three years.

The market-implied path for US policy rates, based on the 15 working day average to 29 July, was around 45 basis points higher over the remainder of 2025 than the 15 working day average to 29 April. This, in part, reflected market expectations that the Federal Reserve would keep the federal funds rate higher in the near term to counteract the expected increase in inflationary pressures from fiscal stimulus, trade restrictions and a deprecation in the dollar. However, as of 5 August, the market-implied path for US policy rates had fallen materially from the 15 working day average to 29 July, in part driven by reaction to weak US labour market data.

Chart 2.3: The market-implied paths for policy rates have changed relatively little since the May Report, although near-term US rate expectations have risen somewhat

Policy rates and instantaneous forward curves for the UK, US and euro area ^(a)

• Sources: Bloomberg Finance L.P. and Bank calculations.
• (a) All data are as of 29 July 2025. The May 2025 curves are estimated based on the 15 UK working days to 29 April 2025. The August 2025 curves are estimated using the 15 UK working days to 29 July 2025. The federal funds rate is the upper bound of the announced target range. The market-implied path for US policy rates is the expected effective federal funds rate. The ECB deposit rate is based on the date from which changes in policy rates are effective. The final data points are forward rates for September 2028.

Sterling had appreciated very slightly in the run-up to the August Report, compared with three months earlier.

Sterling had appreciated slightly since the period leading up to the May Report, with the average sterling exchange rate index over the 15 working days to 29 July being 0.3% higher than the 15 working days up to 29 April (Chart 2.4). The pound weakened by 1% over this period against the euro, but strengthened by around 2% against the dollar. As of 5 August, sterling had depreciated slightly compared to the 15 working day average to 29 July, to a little below the levels leading up to the May Report.

Chart 2.4: The appreciation in sterling since early 2025 has been driven in part by weakness in the US dollar

Sterling exchange rates ^(a)

• Sources: Bloomberg Finance L.P., LSEG Workspace and Bank calculations.
• (a) Data are indexed to the average level in January 2025 for each series. Final data are to 29 July.

2.2: Domestic credit conditions

Spreads on wholesale bank debt have fallen back from their levels in April.

UK banks’ wholesale funding costs have fallen back since the May Report, having risen in April in response to growing concerns around the impact of higher tariffs on global economic activity (Section 2.2 of the May 2025 Monetary Policy Report).

Many quoted household interest rates have fallen over recent months, along with effective rates on new corporate lending.

The primary driver of changes in household and corporate interest rates over recent months has continued to be movements in their relevant reference rates. The average effective interest rate on new corporate lending, for which Bank Rate is the main reference rate, has continued to evolve broadly in line with the experience from previous Bank Rate cycles, and is now 125 basis points lower than in May 2024 (Chart 2.5, right panel).

The pass-through of reductions in Bank Rate to instant-access household deposit rates has continued to be low over recent months. The average quoted instant-access deposit rate is currently around 45 basis points lower than in July 2024, much less than the reduction in Bank Rate over this period. That low degree of pass-through is partly a consequence of low pass-through during the most recent Bank Rate tightening cycle, along with increasingly strong competition for deposits between banks. Meanwhile, quoted interest rates on representative credit card lending to households tend to respond to changes in Bank Rate very slowly and have remained around the same level since the start of the current cutting cycle.

Medium-term overnight indexed swap (OIS) rates are the key reference rates for interest rates on fixed-rate mortgages, fixed-rate savings bonds, and personal loans. Two and five-year spot OIS rates are little changed overall since the May Report. But despite some volatility, interest rates have generally fallen across relevant household products over this period, reflecting the lagged pass-through of previous falls in OIS rates (Chart 2.5, left panel). The average quoted rates on two-year fixed-rate mortgages with loan to value (LTV) ratios of 75% and 90% have fallen by around 15 basis points and 35 basis points, respectively, since April 2025. Quoted rates on fixed-rate savings bonds and personal loans have also fallen broadly as expected.

Chart 2.5: Pass-through of changes in reference rates has continued to operate broadly as expected over recent months

Household and corporate interest rates and their corresponding reference rates ^(a)

• Sources: Bank of England, Bloomberg Finance L.P. and Bank calculations.
• (a) Household loan and deposit rates are based on average quoted rates and business loan rates are based on average effective rates on new lending. The Bank’s quoted rates series are weighted monthly average rates advertised by all UK banks and building societies with products meeting the specific criteria. Introduction of new Quoted Rates data provides more information. The 75% and 90% LTV mortgage rates are for two-year fixed-rate products. The reference rate for these, and for personal loans and fixed-rate savings bonds, is the two-year OIS rate. The two-year OIS rate shows monthly averages, while Bank Rate shows month-end numbers. The provisional July 2025 data are shown in diamonds. For quoted rate series and the two-year OIS rate, these are based on average values to 29 July 2025. The provisional data point for Bank Rate is based on the rate as of 29 July 2025. The final business loan rate data are for June 2025.

Bank lending to households and corporates has generally picked up over recent quarters but there has been some volatility in recent data. Aggregate broad money growth has been relatively stable.

Household net secured lending growth was weak over 2023, largely reflecting the impact of restrictive monetary policy on demand for borrowing. But there has been a gradual pick-up since 2024 as monetary policy has become less restrictive (Box A and Chart 2.6, left panel).

More recently, net secured lending flows have been volatile, largely due to changes in Stamp Duty Land Tax (SDLT). Net secured lending to households recovered in May and June, following the weakest monthly flow since January 2024 in April. That recent volatility is consistent with households having brought forward house purchases ahead of the rise in SDLT in April.

Recent developments in mortgage regulation are judged to be supporting mortgage approvals, which should feed through to higher lending volumes over the coming months. Lenders have already started to use lower stress test rates in borrower affordability tests following the March statement from the Financial Conduct Authority (FCA) on its mortgage rules (July 2025 Financial Stability Report). This is expected to lead to a larger share of lending at a loan to income (LTI) ratio of greater than or equal to 4.5 over coming quarters. Meanwhile, the FPC recommended the Prudential Regulation Authority and the FCA amend implementation of its LTI flow limit to allow individual lenders to increase their share of lending at high LTIs, while aiming to ensure the aggregate flow remained consistent with the 15% limit (July 2025 Financial Policy Committee Record). This is also likely to increase the availability of credit for some households over coming quarters.

Real unsecured credit volumes have been relatively stable since the Covid pandemic, with the flows in June in line with their average level over the previous six months (Chart 2.6, right panel).

Net lending to non-financial private corporations has risen over recent months. That follows weakness between 2023 and mid-2024, driven by the effects of higher interest rates on the demand for credit and businesses repaying pandemic-era loans (Box D of the May 2025 Monetary Policy Report). Intelligence from the Bank’s Agents suggests that credit demand from corporates remains weak in an absolute sense, but rising enquiries suggest some recovery over 2025 H2 (Box F). That is consistent with responses to the 2025 Q2 Credit Conditions Survey, which suggest that businesses’ demand for credit is expected to pick up slightly for both small and large businesses over 2025 Q3.

The annual growth rate in aggregate broad money picked up a little to 4.1% in June, while the ratio of aggregate broad money to nominal GDP remains below its pre-pandemic trend (Box D of the May 2025 Monetary Policy Report).

Chart 2.6: Flows of net secured lending to households have been volatile over recent months, while net consumer credit volumes have been more stable

Real flows of net secured and net unsecured lending to households ^(a)

• Sources: Bank of England, ONS and Bank calculations.
• (a) All flows are deflated with the CPI index and are shown in June 2025 prices. The latest data are to June 2025.

2.3: Domestic activity

Temporary factors pushed up headline GDP growth at the turn of the year.

Having flatlined in 2024 H2, GDP growth picked up sharply at the start of the year, to 0.7% in 2025 Q1, 0.1 percentage points stronger than expected in the May Report. But Bank staff judge that this recent strength largely reflects temporary factors that provide little signal for underlying momentum in GDP. Some of the strength in headline GDP was driven by growth in net trade, largely reflecting higher goods exports to the US as firms sought to front-load exports ahead of higher expected tariffs in 2025 Q2. Consistent with this, there was strength in the activity of tariff-sensitive industries, such as manufacturing and wholesale services. There was also evidence of front-loading in activity ahead of higher domestic taxation. Motor trades output rose notably ahead of higher vehicle excise duty in April and there was strength in housing sensitive sectors ahead of the April rise in Stamp Duty Land Tax (Section 2.2).

Underlying GDP growth is expected to pick up a little in the near term.

The collective steer from business surveys suggests that underlying momentum in GDP picked up from 0% in 2025 Q1 to 0.1% in 2025 Q2 (Chart 2.7). The most recent monthly output data have been weak, falling by 0.3% in April and 0.1% in May, unwinding some of the strength in Q1 and leaving the level of GDP unchanged since February. Based on the available monthly GDP data and survey indicators, headline GDP is expected to have grown by 0.1% in Q2.

Underlying GDP growth is expected to pick up a little further to 0.2% in 2025 Q3. As of July, the final S&P Global composite UK PMI future output index had risen by over one standard deviation from its April trough, while the output index had also risen but by less. Both indices remain a little below their pre-pandemic averages. Headline GDP is expected to grow by 0.3%, a little stronger than growth in underlying GDP. That in part reflects a modest expected recovery in export volumes as part of the recently announced UK-US Economic Prosperity Deal, resulting in reduced automotive and aerospace tariffs for the UK.

Chart 2.7: Underlying GDP growth is expected to pick up slightly

Three-month on three-month growth in GDP and quarterly GDP growth implied by business surveys ^(a)

• Sources: Bank of England Agents, BCC, CBI, Lloyds Business Barometer, ONS, S&P Global and Bank calculations.
• (a) The final data point for three-month on three-month GDP growth is for the three months to May 2025. The aqua diamonds show Bank staff projections for headline GDP. The survey indicator model is based on a Staggered Combination MIDAS approach (Moreira (2025)). The orange diamonds to 2025 Q1 show in-sample fitted values of the survey indicator model and diamonds for 2025 Q2 and Q3 show out of sample projections.

Firms have reported that a mixture of global and domestic factors has weighed on output.

Indicators of output and export orders have been below their historical averages recently (Chart 2.8), owing to a mixture of global and domestic factors. On the domestic side, firms have pointed to higher employer NICs, and uncertainty about its impact, as having weighed on growth. In the 2025 Q2 BCC Quarterly Economic Survey, 56% of firms reported that taxes were a greater concern than three months ago. On the global side, some firms reported that tariff announcements and the associated weakness in global demand were contributing to weakness in output growth. In the June S&P Global UK Manufacturing PMI survey, manufacturers reported that tariff uncertainty had resulted in lower export orders amid reports of weak global demand. And according to intelligence from the Bank’s Agents, uncertainty about the global and domestic outlook remains elevated, although global uncertainty has slightly declined since the May Report. Elevated uncertainty is contributing to low business confidence and subdued investment intentions.

The impact of these global and domestic factors appears to have waned somewhat in recent months, however. Consistent with that, the Composite S&P Global UK output and new export indices have risen from their April troughs (Chart 2.8).

Chart 2.8: Survey measures of output and export growth have picked up somewhat from recent lows

Survey indicators of UK output and export growth ^(a)

• Sources: S&P Global and Bank calculations.
• (a) A reading of above 50 in the S&P Global PMI index indicates an increase on the previous month while a reading below 50 indicates a fall. The dashed lines represent the series averages, calculated from January 1998 to December 2019 for the composite output series and September 2014 to December 2019 for the new export orders series. The latest data are flash estimates for July 2025.

Higher global tariffs weighed on UK export growth in Q2, largely due to the unwind of front-loading.

UK goods exports have fallen sharply in recent months. While these data can be volatile and prone to large revisions, Bank staff judge that the falls largely reflect an unwind of previous front-loading ahead of rises in global tariffs. Since March, the value of goods exports to non-EU countries has fallen by nearly 12%, which mostly reflects a 28% fall in exports to the US. These declines were predominantly driven by goods that were likely to be affected by particularly high tariffs, namely cars and non-ferrous metals, though exports of other goods were also affected (Chart 2.9). Bank staff judge that there is some additional weakness in UK export growth beyond the effects of front-loading, however. That is particularly the case for car exports, the value of which to the US had fallen by around 24% on an annual basis in May. The Society of Motor Manufacturers and Traders reported that UK vehicle production had fallen for five consecutive months in May, in part due to the impact of US tariffs, though it had picked up a touch in June.

Chart 2.9: UK goods exports to the US have fallen sharply since March

Contributions to percentage change in nominal UK goods exports to the US since January 2024 ^(a)

• Sources: ONS and Bank calculations.
• (a) The data are current price measures, are non-seasonally adjusted and include trade in unspecified goods. Data are shown to May 2025.

The household saving ratio remains elevated.

Household consumption grew by 0.3% in 2025 Q1, 0.1 percentage points lower than expected in the May Report. Consumption growth has been weaker than growth in real household incomes, such that the household saving ratio had risen to 11.6% by the end of last year. Much of that recent rise in the saving ratio reflects the restrictive stance of monetary policy (Box A). The saving ratio fell by 1 percentage point in 2025 Q1 (Chart 2.10), reflecting a decline in real household income of 0.8% as the rate of inflation outpaced the increase in nominal incomes. Despite this fall, the saving ratio remains notably above its pre-pandemic level, although these data can be heavily revised. Results from the spring Bank of England/NMG survey suggested that one of the key drivers of elevated saving, besides higher interest rates, was saving for emergencies, potentially reflecting precautionary behaviour. And in the July GfK Consumer Confidence Barometer, the savings index, which tracks people’s desire to save, rose to its highest level since November 2007. But few respondents to the NMG survey said that concerns about job loss were inducing them to save more.

Indicators of household spending suggest that consumption will grow by 0.2% over Q2 and Q3. Retail sales volumes rose by 0.2% over 2025 Q2, in part reflecting weakness in food sales. And the GfK consumer confidence index remains below its historical average, largely driven by weakness in the general economic situation sub-indices. Further out, consumption growth is expected to pick up somewhat, supported by a reduced drag from past rises in interest rates. This is consistent with a gradual decline in the saving ratio (Section 1).

Chart 2.10: The household saving ratio fell for the first time in two years in 2025 Q1, but remains elevated

Household saving ratio ^(a)

• Sources: ONS and Bank calculations.
• (a) The ratio is calculated as saving as a percentage of total available household resources. The ONS series is NRJS. The final data point shown is for 2025 Q1.

2.4: The labour market and supply

Underlying employment growth has continued to stagnate.

Bank staff judge that underlying employment growth, based on the signal from a range of measures, has been around zero since the end of last year (Chart 2.11, aqua line). Part of the weakness in employment reflects the weak underlying momentum in GDP. The orange line in Chart 2.11, which plots the estimated path of employment growth consistent with growth in underlying GDP, has fallen in recent quarters. And firms reported that subdued demand conditions were a constraint on staff recruitment in the June S&P Global Flash PMI survey. Weakness in GDP cannot fully explain the current weakness in underlying employment growth, however. Bank staff judge that some of that additional weakness reflects increases in employment costs. Contacts of the Bank’s Agents have pointed to the rise in employer NICs and, to a lesser extent, increases in the NLW, as contributors to the weakness in employment growth. Alongside employment, firms are expected to continue to use several margins of adjustment in response to higher employer NICs (Section 2.5).

While indicators, on balance, suggest that underlying employment growth has been around zero, there is a high degree of dispersion among various measures. HMRC payroll data have been particularly weak, falling by 0.3% in the three months to June. Around half of this fall represents fewer jobs in the retail and hospitality sectors, both of which are quite labour intensive and are therefore exposed to the recent rise in labour costs. But early estimates of these data are prone to large revisions, so some of this weakness could be revised away. In addition, these data only cover employees, and it could be the case that some of the weakness reflects workers switching to self-employment.

Bank staff project employment growth to remain weak in the near term. Timely indicators of employment growth, such as the REC permanent staff placements index, are below historical averages and broadly consistent with employment growth of around zero. And employment intentions remain subdued, according to Agency intelligence. Contacts of the Bank’s Agents suggest that considerable adjustment to NICs through employment has already taken place, however.

Chart 2.11: Part of the recent weakening in underlying employment growth reflects weak underlying momentum in GDP

Measures of employment growth and employment growth implied by GDP growth ^(a)

• Sources: Bank of England Agents, DMP Survey, HMRC, KPMG/REC UK Report on Jobs, Lloyds Business Barometer, ONS, S&P Global and Bank calculations.
• (a) Bank staff’s indicator-based measure of underlying employment growth is constructed using a dynamic factor model following the approach of Doz et al (2011). The model extracts a common component from monthly survey indicators, capturing comovements across series. The common component is scaled to align with LFS employment growth between 2000–19. The shaded areas represent 95% confidence intervals. The employment growth estimate implied by underlying GDP is based on a simple regression of underlying employment on six lags of underlying momentum in GDP based on Chart 2.7. The latest data are for 2025 Q2 for the GDP implied estimate of employment and July 2025 for the estimate of underlying employment based on survey data.

The ONS LFS estimate of employment has been significantly stronger than Bank staff’s underlying measure, increasing by 0.4% in the three months to May. Achieved sample sizes in the LFS have improved recently, from 50% below 2019 levels in 2023, to around 17% below those levels in the latest data. But sample sizes remain low overall and therefore sampling variability is elevated. As such, the MPC continues to place less weight on the LFS relative to alternative measures of employment growth.

The unemployment rate has edged up recently.

The latest LFS data suggest that the unemployment rate rose to 4.7% in the three months to May, up from 4.4% at the end of 2024 and 0.2 percentage points higher than expected in the May Report. Relative to employment, there are fewer indicators beyond the LFS when gauging developments in unemployment (Broadbent (2023)). But the combined signal from the available indicators, such as the REC and Agents’ scores for recruitment difficulties, suggest a similar increase. The rise in the unemployment rate from its recent trough in 2022 Q3 has occurred alongside a rise in labour force participation.

The recently reinstated LFS flows data are consistent with a gradual loosening in the labour market. Job-to-job flows, which track the proportion of people moving between jobs, have fallen below their historical average in recent quarters (Chart 2.12, left panel) and are consistent with the recent rise in the unemployment rate (Gomes (2012)). And while a broader labour market downturn would, based on past historical relationships, be accompanied by a sharp rise in the job separation rate, the current data have been broadly stable (Chart 2.12, right panel). These data should be interpreted with a degree of caution, however, given low sample sizes.

Looking ahead, Bank staff project the unemployment rate to rise slightly further, to around 4.8% by 2025 Q3. This is broadly consistent with softening employment intentions and relatively stable redundancy rates. LFS redundancies remain low, while advanced notifications of potential redundancies among larger firms, known as HR1s, are also subdued. Meanwhile, company insolvencies remain below their long-term average levels (July 2025 Financial Stability Report). Taken together, these data are broadly consistent with the expected continued gradual loosening in the labour market. Set against that, Google searches for redundancies, which track official redundancies fairly well, have edged up recently. And redundancies were cited as a driver of higher overall staff availability in the KPMG/REC survey. These data could point to an upside risk to the near-term projection for unemployment.

Chart 2.12: Job-to-job flows have recently fallen below past averages, while job separation rates have been broadly stable

Flows as a percentage of people in employment ^(a)

• Sources: ONS and Bank calculations.
• (a) These data are two-quarter flows, based on total employment of people aged 16–69 for job-to-job flows and 16–64 for the separation rate. Job-to-job flows refer to those who were employed in both quarters, but who in the latter quarter reported being with their current employer for less than three months, indicating a change of job between the quarters. The separation rate captures those who were unemployed in the latter quarter, having been classified as employed or economically inactive in the previous quarter. Refer to ONS (2010) for more details. The dashed lines are averages from 2002–19.

Labour market slack is continuing to build as expected and survey indicators point to a further gradual loosening in the near term.

Labour demand appears to have fallen further in recent months. ONS job vacancies, a measure of labour demand, have fallen by around 10% since the start of the year and Bank staff project job vacancies to fall a little further in the near term. Some firms responding to the ONS Vacancy Survey reported that they are not recruiting new workers or replacing workers who have left. Agency intelligence shows a similar picture, with many contacts reporting recruitment freezes and more intense scrutiny of hiring decisions, reflecting a mixture of higher labour costs and demand uncertainty.

Alongside higher unemployment, the fall in job vacancies has led to a further fall in the ratio of vacancies to unemployment, known as the V/U ratio (Chart 2.13). This ratio is judged to be somewhat below its equilibrium level (Stelmach et al (2025)) and is projected to fall a little further in the near term. Other indicators are also consistent with a growing margin of labour market slack. The net additional hours desired by workers, as a percentage of average hours worked, has continued to rise, and contacts of the Bank’s Agents report that recruitment difficulties are normalising from previously elevated levels.

Chart 2.13: The V/U ratio has fallen further below its equilibrium level

Vacancies to unemployment ratio and its estimated equilibrium value ^(a)

• Sources: Advertising association/World Advertising Research Centre Expenditure Report, ONS and Bank calculations.
• (a) The final data point shown for the V/U ratio data is for the three months to May 2025. The equilibrium V/U ratio is estimated using an error-correction model over the period 1982–2024. The real cost of vacancy posting and hourly labour productivity are included as long-run determinants for the level of vacancies. The model also includes controls for short-term movements in these variables (Stelmach et al (2025)). The final data point for the equilibrium V/U ratio is 2025 Q1. The diamonds represent Bank staff projections for the V/U ratio and equilibrium V/U ratio for 2025 Q2 to 2025 Q4.

A margin of spare capacity has opened up in the economy.

In addition to evidence of a growing margin of labour market slack, surveys of capacity utilisation suggest a growing degree of spare capacity within firms (Chart 2.14, left panel). Consistent with this, contacts of the Bank’s Agents report that spare capacity is opening up across sectors, particularly in production industries, reflecting subdued demand. Top-down estimates of the output gap based on statistical techniques imply a modest widening recently, although there are large uncertainties around the precise level of the output gap. While capacity utilisation and labour market data suggest a growing margin of slack, the signal from nominal indicators remains consistent with a margin of excess demand (Chart 2.14, right panel).

Taken together, the MPC judges that the economy is operating with a degree of spare capacity. The margin of spare capacity is projected to widen a little further over the next few quarters (Section 1).

Chart 2.14: Capacity utilisation and labour market data are consistent with growing slack

Survey indicators of capacity utilisation ^(a) and model-based estimates of the output gap ^(b)

• Sources: Bank of England Agents, BCC, CBI, KPMG/REC UK Report on Jobs, ONS, S&P Global and Bank calculations.
• (a) Standard deviations from averages between 2000–19. The measures included in the swathe are from the Bank’s Agents, the BCC (non-services and services), the CBI (manufacturing (capacity); and financial services, business/consumer/professional services and distributive trade (business relative to normal)) and S&P Global (manufacturing (backlogs) and services (outstanding business)). Sectors are weighted using their shares in gross value added. The BCC data are not seasonally adjusted. The data are shown to 2025 Q2.
• (b) The model is estimated over 2000–2025 Q2 using the two-step estimator from Doz et al (2011), obtained from running the data through a Kalman filter and smoother once. The first factor of the dynamic factor model is interpreted as a measure of slack. The factor is then mean-variance adjusted to the MPC’s baseline output gap estimate over 2000–2025 Q2. The labour market block is estimated using survey indicators of slack and the vacancy gap estimate from Chart 2.13. The capacity utilisation block includes a range of surveys of capacity utilisation also used in the left panel of this chart. The nominal block contains measures of pay and underlying inflation, such as those in Charts 2.17 and 2.20. The data are shown to 2025 Q2.

Potential supply growth over the forecast period is expected to be weaker than projected in the May Report, reflecting lower net migration.

Net migration fell to 431,000 in the year ending December 2024, down from 860,000 in the previous year (Chart 2.15, aqua line). That largely reflects fewer visas issued over the last year, as well as an increased number of students returning abroad. The fall in migration has been far greater than expected based on the ONS principal projection (Chart 2.15, orange line), which itself is based on 2022 population data. Based on the new migration data, the ONS has recommended using a lower path for future net migration, known as the migration category variant projection (Chart 2.15, purple line). Based on that lower projected path for net migration, Bank staff have revised down their estimate for annual potential supply growth by an average of 0.2 percentage points per year over the forecast period (Section 1).

Chart 2.15: Net migration has fallen more quickly than expected

Estimates of net migration and ONS projections ^(a)

• Sources: ONS and Bank calculations.
• (a) The official ONS net migration data are estimated using administrative data, supported by surveys and statistical modelling. The Provisional long-term international migration estimates: technical user guide provides further details. These data refer to 12-month reference periods. For example, year-end December 2023 covers international migration to and from the UK from 1 January 2023 to 31 December 2023. The final official ONS net migration data are for year-end December 2024. The ONS principal and migrant category population projections are from the 2022-based national population projections. The latest data points are for year-end September 2028.

Labour productivity growth remains weak, although the headline data may overstate some of the most recent weakness.

Measures of labour productivity growth continue to be weak relative to past averages. In the four quarters to 2025 Q1, output per hour based on headline data fell by 0.2%, while output per worker fell by 0.6% on the same basis (solid lines in Chart 2.16). That compares with average four-quarter growth of around 0.6% in these measures in the five years ahead of the Covid pandemic. But Bank staff judge that erratic factors have meant that some of the weakness in the headline data has been overstated. Underlying output per worker, based on the measures of underlying momentum in GDP and employment shown in Charts 2.7 and 2.11, grew by 0.4% in the four quarters to 2025 Q1 (Chart 2.16, dashed aqua line).

Chart 2.16: Labour productivity growth remains subdued

Measures of annual labour productivity growth ^(a)

• Sources: ONS and Bank calculations.
• (a) Four-quarter growth in output per worker and output per hour. Underlying output per worker is constructed using underlying momentum of GDP and employment, based on the indicator-based models from Charts 2.7 and 2.11 for GDP and employment respectively. The final data points are for 2025 Q1.

2.5: Wages and inflation

Pay growth across a range of measures continues to fall back but remains elevated.

Wage growth has continued to slow, to around 5%. Annual private sector regular AWE growth was 4.9% in the three months to May, compared with 5.9% in the three months to February and below the May Report projection of 5.4%. Part of the recent drop in AWE growth reflects a reversal of compositional effects and the fading of base effects that had pushed up pay growth at the start of the year, as anticipated in the May Report. But there has also been some additional downside news in private sector regular AWE growth.

The recent falls have brought AWE growth back in line with the signal of a gradual slowing in pay growth from a range of other indicators (Chart 2.17). The DMP Survey, the Indeed Wage Tracker and a proxy based on HMRC RTI data all suggest that annual pay growth has fallen modestly since the beginning of the year, albeit to a still elevated level.

Chart 2.17: Wage growth has declined across various measures and is expected to fall to around 3¾% by the end of the year

Measures of private sector wage growth ^(a)

• Sources: Bank of England Agents, DMP Survey, HMRC, Indeed, ONS and Bank calculations.
• (a) Private sector regular pay growth shows the ONS measure of private sector regular average weekly earnings growth (three-month average on same three-month average a year ago). DMP shows three-month average realised pay growth from the DMP Survey (three-month average on same three-month average a year ago). HMRC Real-Time Information (RTI) shows median of private sector employee pay growth. Indeed Wage Tracker shows annual average job title matched pay growth for UK job vacancies. Latest data points are for the three months to May 2025 for private sector regular pay, June 2025 for Indeed and HMRC RTI, and July 2025 for the DMP Survey. The Agents’ pay survey circle shows respondents’ expected average pay settlements in 2025, weighted by employment and sector. The DMP diamond shows average expected pay growth one year ahead from the December 2024 DMP Survey. Private sector regular pay growth projections are for 2025 Q3 and 2025 Q4.

Wage growth is expected to moderate significantly further in the second half of 2025.

Private sector regular pay growth is expected to ease further over the second half of the year. That is partly due to an expected drag from base effects because of unusually strong wage growth at the end of 2024. Statistical analysis by Bank staff suggests that, even absent any further slowing in the trend of monthly pay growth rates, AWE growth should drop to around 4.5% by the end of the year. A range of indicators suggests that AWE growth will be lower than this by the end of 2025, however. Intelligence from the Bank’s Agents points to average pay rises for 2025 of between 3.5% and 4%, and respondents to the DMP Survey expected pay growth to be just under 4% by the end of the year (Chart 2.17).

Meanwhile, recent pay settlements data from Brightmine, CIPD and the Bank’s own settlements database continue to suggest that pay awards have been around 3%–4% since the end of last year. Within the Bank’s settlements database, a normalisation in the distribution of pay awards is evident. In particular, the share of awards above 5¼% has fallen from over 50% to below 20% over the past year, while the share of awards in the 2½% to 3¾% range has increased from around 6% to 36%.

Pay settlements in the 3%–4% range are broadly consistent with headline pay growth towards the top of this range by the end of the year. That is partly because pay settlements typically cover the period 12 months from when they are made, and hence provide a leading signal of pay growth, whereas AWE growth refers to the previous 12 months. It is also because pay settlements only capture increases in basic pay. Measures of aggregate pay growth will often depart from this due to people moving jobs to get a higher salary, in-role promotions, or discretionary pay increases outside the usual settlement period. These effects are also known as pay drift. Historically, pay drift has tended to be higher in periods of labour market tightness. As the labour market is now loosening (Section 2.4), Bank staff expect aggregate pay drift to fall back from its level of around 1 percentage point in 2024.

Overall, annual private sector regular AWE growth is projected to slow to 3.7% by the end of 2025, as the easing in the labour market and past falls in inflation expectations feed through to lower wage growth. Wage growth is expected to moderate further to a little below 3½% by 2026 Q2, broadly consistent with expected pay growth in the latest DMP Survey and early intelligence from the Bank’s Agents.

The rise in the National Living Wage is putting modest upward pressure on pay, partly offset by a drag from higher employer NICs.

The 6.7% rise in the National Living Wage (NLW) in April was expected to push up annual pay growth by around 0.2 percentage points from 2025 Q2 in the May Report. In line with that, pay growth in the retail and hospitality sectors, which have a large share of employees at or close to the NLW, was elevated at 7.1% in the latest data. Contacts of the Bank’s Agents continue to cite the NLW as the largest factor exerting upward pressure on pay in 2025.

Partly offsetting the impact of a higher NLW, the increase in the rate of employer NICs is likely to weigh on wage growth as firms try to contain the rise in overall employment costs (Box D of the February 2025 Monetary Policy Report). In line with this, intelligence from the Bank’s Agents suggests that firms are using a range of measures to mitigate the impact of higher NICs on total labour costs, including reducing pay awards for staff paid above the NLW, as well as raising prices.

Headline CPI inflation was 3.6% in June, above the MPC’s 2% target.

Twelve-month CPI inflation was 3.6% in June, up from 2.6% in March and slightly above the expectation at the time of the May Report. Since its recent trough in September 2024, headline inflation has picked up. This reflects a smaller drag from energy prices (Chart 1.1), a larger contribution from core goods, and, more recently, stronger-than-expected food price inflation. Meanwhile, core inflation has remained elevated, mainly because services inflation continues to be high at 4.7%. This reflects past strength in wage growth as well as temporary upward pressures from one-off increases in administered prices and the increase in employer NICs.

Energy prices drove much of the rise in CPI inflation over the past year but are expected to have little impact on inflation going forward.

The largest driver of the rise in headline inflation over the past year has been the waning drag from household energy bills. The contribution of household energy bills to headline inflation has been positive since April of this year, following 18 months in which household energy bills reduced headline inflation (Chart 2.18). The Ofgem energy price cap for the typical household is £1,720 for July until September 2025, almost 10% higher than for the same period last year, and is expected to remain at around that level for October to December 2025. Household energy bills are expected to boost inflation slightly over the next few months, partly offset by a small drag from fuels and lubricants.

Chart 2.18: CPI inflation rose to 3.6% in June

Contributions to CPI inflation ^(a)

• Sources: Bloomberg Finance L.P., Department for Energy Security and Net Zero, ONS and Bank calculations.
• (a) Figures in parentheses are CPI basket weights in 2025, which do not sum to 100% due to rounding. Data are shown to June 2025. Component-level Bank staff projections are shown from July to December 2025. The food component is defined as food and non-alcoholic beverages. Fuels and lubricants estimates use Department for Energy Security and Net Zero petrol price data for July 2025 and are then projected based on the sterling oil futures curve.

Core goods price inflation is projected to moderate, while food price inflation is expected to rise further.

Core goods and food price inflation fell materially over 2023 and early 2024, following declines in the prices of key inputs such as energy and other raw materials, but both have increased in recent months (Chart 2.19). Annual core goods and food price inflation were 1.8% and 4.5% in June respectively, above pre-Covid average rates.

Intelligence from the Bank’s Agents suggests that the increase in core goods price inflation in recent months has mainly reflected higher labour costs. Indicators of non-labour cost pressures had increased at the beginning of the year but have fallen back somewhat since April. Annual core goods price inflation is expected to moderate in coming months, driven mainly by base effects due to strong increases in core goods prices in the second half of last year. Monthly annualised core goods price inflation rates are projected to remain slightly above their pre-Covid average in the second half of the year.

Chart 2.19: Core goods price inflation is expected to moderate in coming months, while services and food price inflation are projected to remain elevated

Annual inflation rates for components of CPI ^(a)

• Sources: ONS and Bank calculations.
• (a) The core goods component is defined as goods excluding food and non-alcoholic beverages (FNAB), alcohol, tobacco and energy. Data are to June 2025. Bank staff projections from July to December 2025. Dashed lines represent the 2010–19 averages, which are 3.0%, 1.6% and 0.8% for services, FNAB and core goods respectively.

There are uncertainties around the outlook for core goods price inflation due to data quality issues. In March, the ONS paused the publication of its producer price inflation data following the identification of a problem in its production (ONS (2025)). The ONS is expected to resume full publication of these data in October. However, indicative producer prices published in July suggest that input price pressures had remained muted as of April. That is broadly in line with the PMI manufacturing input price balance, which has picked up since late 2023 but has fallen again in recent months and remains around its long-run average.

Meanwhile, food price inflation is projected to be around 5% in 2025 Q3, 1½ percentage points higher than expected in the May Report, before rising further to 5½% by the end of this year. This accounts for most of the upward revision to the projected path for CPI inflation over the next few months. High expected food price inflation is driven partly by higher global commodity prices, but also by labour costs and the Extended Producer Responsibility regulations that come into effect from October of this year (Box E).

Underlying services inflation has continued to moderate, but at a slower pace than last year based on some measures.

Services inflation remained at 4.7% in June, unchanged from March and slightly above the expectation in the May Report. Underlying services price inflation has continued to moderate somewhat across a broad range of measures, including those based on exclusionary, trimming or reweighting approaches (Chart 2.20). However, all of these measures suggest that underlying services inflation remains elevated, and disinflationary progress in recent months has been slower than last year according to some measures.

Chart 2.20: Underlying services inflation remains elevated

Measures of three-month average monthly annualised services price inflation ^(a)

• Sources: ONS and Bank calculations.
• (a) Measures shown are three-month averages of seasonally adjusted monthly annualised inflation. The low variance measure is calculated by weighting each component of services inflation by the inverse variance of the change in 12-month inflation of that component from 12 months previously. The maximum adjusted weight is capped at twice its original value. Details on the components which have been included/excluded from the Services excluding indexed and volatile components, rents and foreign holidays measure are included in the accompanying spreadsheet published online. The trimmed mean measure excludes the 10% largest and 10% smallest price changes. The latest data points shown refer to June 2025.

Elevated services inflation reflects unusually large increases in some administered prices, as well as high wage growth.

Unusually large increases in several administered prices such as vehicle excise duty have contributed to high services inflation since April. Bank staff estimate that these are currently adding around 0.6 percentage points to UK services inflation (Chart 2.21), masking some of the disinflationary progress in the first half of this year.

Chart 2.21: Administered price increases have contributed just over half a per cent to UK services inflation

Measures of annual services inflation ^(a)

• Sources: Eurostat, ONS and Bank calculations.
• (a) The data shown in the solid lines are UK CPI services inflation and euro-area HICP services inflation. The dashed lines show Bank staff’s estimates of the unusual contribution from administered prices to services inflation in 2025. For the UK, this captures the estimated excess impact of changes in sewerage charges, bus fares, vehicle excise duty and VAT on private school fees. For the euro area, staff have estimated the excess contribution of HICP services subcomponents judged to contain significant amounts of administered prices, relative to a pre-Covid baseline. The euro area estimate is likely to be an upper bound of the true excess contribution from administered prices in 2025. The latest data points shown refer to June 2025.

Administered price increases are also estimated to be adding to services inflation in the euro area, although to a lesser extent than in the UK (Chart 2.21). After accounting for these effects, UK services inflation remains materially higher than euro-area services inflation. That appears to primarily reflect a higher level of UK wage growth over the recent past. Four-quarter private sector wage growth in the UK was 6.2% in 2024 Q4, compared with a 4.1% increase in compensation per employee in the euro area. Since wages tend to affect services prices with a lag of several quarters, past strength in UK wage growth can account for much of the strength in UK services inflation in the first half of 2025.

The increase in employer NICs is likely to delay further declines in services inflation.

The Bank’s Agents’ company visit scores suggest that following the October 2024 budget, a wedge has opened up between firms’ expected pay growth and expected total labour costs, probably reflecting higher employer NICs (Chart 2.22). Responses to the DMP Survey similarly indicate that there has been a larger slowdown in wage increases than there has been in overall unit costs in the consumer services sector. Contacts of the Bank’s Agents report that the rise in unit costs has put further downward pressure on margins, which are viewed as compressed (Box F). Firms may seek to recover margins by raising prices over coming months, depending on the strength in demand.

Chart 2.22: A wedge has opened up between expectations for total labour costs and pay expectations

Bank of England Agents’ company visit scores ^(a)

• Source: Bank of England Agents.
• (a) After visiting companies, Agents assign company visit scores based on information gathered during the meeting. A score of +5 indicates a rapidly rising level, 0 indicates an unchanged level and -5 a rapidly falling level. Details on the scores can be found in Relleen et al (2013). The latest data points are for June 2025.

Services inflation is expected to rise in the near term before falling back next year.

Services inflation is expected to rise from 4.7% in June to around 5.1% in December (Chart 2.19). This rise is driven by base effects due to a large drop in services inflation in the second half of last year. Annualised monthly rates of services inflation are projected to decline in the second half of the year as lower wage growth continues to feed through, although that decline is relatively slow.

The slow expected pace of decline in services inflation partly reflects the fact that lower wage growth is expected to be partly offset by increases in other labour costs, including employer NICs, in the near term. It is also due to pay growth having recently slowed by less in sectors with large direct contributions to the services CPI basket. This is driven in part by the effects of the NLW increase on the retail and hospitality sector, and could limit reductions in inflationary pressures in these sectors in the near term.

Further ahead, services inflation is expected to fall back in the first half of 2026, as lower wage growth continues to drag and upward pressure from higher employer NICs begins to fade. As inflation rates remain elevated across a large share of the services CPI basket (Chart 2.23), the expected slowing in inflation will require a broad-based change in price setting across the whole services sector.

Chart 2.23: Inflation remains elevated across most subcomponents of the services CPI basket

Weighted share of services subcomponents with inflation rates over 1 percentage point above their 2012–19 averages ^(a)

• Sources: ONS and Bank calculations.
• (a) The chart shows the weighted share of items in the services CPI basket at the 85-item level with monthly inflation rates over 1 percentage point above their respective 2012–19 average inflation rates. Over this period, headline inflation averaged 1.8%, while services inflation averaged 2.7%. The dashed line shows the 2012–19 average weighted share of items with inflation rates over 1 percentage point above their respective 2012–19 average inflation rates. The final data point is for June 2025.

Headline CPI inflation is projected to remain around its current rate throughout the rest of the year, peaking at 4.0% in September.

Headline CPI inflation is expected to rise slightly to a peak of 4.0% in September before falling back to 3.6% by the end of the year. This is higher than the 3.7% peak expected in the May Report, accounted for mainly by higher expected food price inflation (Box E). In the baseline projection, a further expected slowing in pay growth means that inflation is projected to fall back gradually next year (Section 1).

Household inflation expectations remain elevated, though near-term expectations have fallen back slightly since the May Report.

Inflation expectations can influence CPI inflation through their impact on wage and price-setting behaviour. The MPC monitors a range of indicators, including surveys of households and companies as well as those derived from financial market prices, to assess whether inflation expectations remain consistent with meeting the 2% inflation target in the medium term.

Survey measures of short-term household inflation expectations had risen ahead of the May Report, likely reflecting increases in headline inflation and in particular rising food price inflation (Box E). More recently, households’ near-term expectations were slightly lower in July than in April according to the Citi/YouGov measure (Chart 2.24, left panel), and also fell back a little in the Bank of England/Ipsos Inflation Attitudes Survey for 2025 Q2. Meanwhile, the Citi/YouGov measure of medium-term household inflation expectations has remained materially above its historical average.

Chart 2.24: Household inflation expectations are elevated, while businesses’ expectations have risen only slightly this year

Survey-based measures of household and business inflation expectations ^{(a) (b)}

• Sources: Citigroup, DMP Survey, YouGov and Bank calculations.
• (a) Data shown are from the Citi/YouGov survey and are based on responses to the questions: ‘How do you expect consumer prices of goods and services will develop in the next 12 months?’, and ‘And what do you think will happen to the prices of goods and services, on average, over the longer term - say five to ten years?’. Dashed lines represent the series averages over 2010–19. The latest data points are for July 2025.
• (b) Data shown are from the DMP Survey and are based on three-month averages of responses to the question: ‘What do you think the annual CPI inflation rate will be in the UK, one year from now and three years from now?’. The latest data points are for July 2025. The DMP Survey data have a short back-run, so no historical averages are shown.

Businesses’ medium-term CPI inflation expectations have increased only slightly since the start of the year.

One-year ahead CPI expectations of firms responding to the DMP Survey have increased slightly this year to just over 3% in July, while three-year ahead expectations have been stable at around 2.8% (Chart 2.24, right panel). The average expectation for firms’ own price growth one-year ahead was 3.7%, a little lower than at the time of the May Report. Meanwhile, the Deloitte CFO survey measure of two-year ahead CPI expectations was 2.5% in Q2, down slightly from 2.6% in Q1.

Financial market participants’ expectations for near-term inflation are broadly unchanged, while medium-term market-based inflation compensation measures have risen slightly.

Financial market participants’ near-term inflation expectations are broadly unchanged since the May Report. The median respondent to the latest Market Participants Survey expected CPI inflation of 2.4% one year ahead, up marginally from 2.3% in the May survey. The median expectation for CPI inflation two years ahead was a little lower at 2.1%. Medium-term inflation expectations derived from financial markets, such as the RPI-reform adjusted measure of five-year, five-year forward inflation compensation, have risen slightly since the May Report and remain a little above pre-Covid averages.

The MPC will continue to monitor closely developments in inflation expectations.

CPI inflation has risen by a little more than expected in recent months and household inflation expectations remain elevated. With inflation likely to reach 4% briefly in the second half of this year and salient items such as food prices expected to increase further (Box E), there is a risk that elevated inflation expectations could become a more material influence on wage bargaining or price setting elsewhere in the economy and add to the persistence of inflationary pressures. That said, it is also possible that the role of household inflation expectations in the wage-setting process could become weaker as the labour market loosens. The MPC will continue to monitor closely developments in inflation expectations measures, including any risks they may pose to the ongoing disinflation process.