UK set for biggest growth hit among major economies from Iran war, OECD warns

The UK is expected to suffer the largest economic hit among major global economies from the ongoing Middle East conflict, according to the OECD, which has sharply downgraded its growth forecasts and warned of rising inflation risks.

In its latest outlook, the OECD cut the UK’s growth forecast for 2026 to just 0.7 per cent, down from a previous estimate of 1.2 per cent, placing it among the weakest performers in the G20. Only Italy is expected to record slower growth among the G7 economies, while the UK is also forecast to experience one of the highest inflation rates in the group.

The downgrade reflects the UK’s vulnerability to rising energy costs, which have surged following the escalation of the US-Israel conflict with Iran. Disruptions to oil and gas supplies, particularly through the Strait of Hormuz, have driven up wholesale prices, feeding directly into inflation and dampening economic activity.

The OECD warned that a prolonged conflict could lead to “significant energy shortages” globally, with knock-on effects including higher fertiliser costs, reduced crop yields and a potential spike in food prices next year.

For the UK, which remains heavily reliant on imported energy, the impact is particularly acute. Rising fuel costs are already being felt at petrol stations and in heating bills, while businesses are facing higher input costs across supply chains.

Alongside weaker growth, inflation is now expected to rise significantly. The OECD forecasts UK inflation will reach 4 per cent this year, up from a previous estimate of 2.5 per cent, before easing to 2.6 per cent in 2027, still above earlier projections.

Across the G20, inflation is now expected to average 4 per cent, compared with a previous forecast of 2.8 per cent, highlighting the global nature of the price shock.

The combination of slowing growth and rising inflation raises the prospect of a stagflationary environment, complicating policy decisions for central banks and governments.

Financial markets have already begun to adjust to the new outlook, with expectations that the Bank of England may need to delay or reverse planned interest rate cuts.

Mortgage lenders have responded by increasing rates and withdrawing hundreds of deals, reflecting concerns about sustained inflation and higher borrowing costs.

The shift in expectations marks a sharp reversal from earlier in the year, when markets had anticipated a gradual easing of monetary policy.

Chancellor Rachel Reeves acknowledged the impact of the conflict but insisted the government’s economic strategy had strengthened the UK’s resilience.

“In an uncertain world we have the right economic plan,” she said, adding that recent policy decisions had put the country in a better position to weather global instability.

However, opposition figures have seized on the downgrade as evidence of underlying economic weakness. Mel Stride described the forecast as a “damning verdict” on the UK’s vulnerability, while the Liberal Democrats called it a “wake-up call” for policymakers.

The effects of the energy shock are already being felt across the corporate sector. Retailers and manufacturers have warned of rising costs linked to fuel, transport and energy.

Executives at major UK companies have highlighted the growing burden of energy-related expenses, with some warning that sustained increases could force businesses to pass costs on to consumers.

The deteriorating fiscal position also limits the government’s ability to respond with large-scale support measures. Reeves has indicated that any assistance for households will be targeted and constrained by borrowing rules, reflecting the pressure on public finances.

The OECD emphasised that support measures should be “timely and well-targeted”, focusing on vulnerable households and viable businesses while maintaining incentives to reduce energy consumption.

Beyond the immediate crisis, the OECD highlighted the need for longer-term policy changes to reduce reliance on imported fossil fuels and improve domestic energy resilience.

Investments in renewable energy, energy efficiency and infrastructure are seen as critical to mitigating future shocks and stabilising the economy.

The latest forecasts underscore the fragile state of the UK economy, which was already experiencing modest growth before the conflict.

While global growth is expected to hold at around 2.9 per cent this year, the UK’s weaker performance reflects both external pressures and structural vulnerabilities.

For policymakers, the challenge will be navigating a complex environment where inflation, energy security and economic growth are increasingly intertwined.

For households and businesses, the message is more immediate: the cost-of-living pressures that defined recent years may be set to intensify once again, as the full impact of the energy shock feeds through the economy.