The latest economic outlook from the National Institute of Economic and Social Research (NIESR) concludes that the UK will face a material hit to output over the next two years as a new energy shock stemming from conflict in the Middle East feeds through prices and activity.
Under a scenario in which hostilities in the region are resolved quickly, NIESR estimates the economy will be about a335 billion smaller over 2026 and 2027 combined than it had forecast earlier this year. The institute has lowered its GDP growth projections to 0.9% for 2026 and 1.0% for 2027. Those numbers represent downward revisions of 0.5 and 0.3 percentage points respectively relative to its February forecast.
Even in its central projection, NIESR notes the UK narrowly avoids a recession - a margin described as slim - while flagging risks that could push the economy into contraction.
Drivers of the downgrade
The research body attributes the downgrade primarily to a fresh energy shock that emerged after the global economy had shown resilience to 2025's tariff shock. This new shock is traced to a sequence of military actions: U.S. and Israeli strikes on Iran beginning on February 28, Iran's retaliatory attacks on energy infrastructure in Gulf States, and Iran's closure of the Strait of Hormuz. Those events pushed oil and gas prices sharply higher.
NIESR highlights the particular vulnerability of the UK to this shock because the country relies heavily on imported gas for household energy, and because gas prices are closely linked with electricity costs. As a result, petrol prices have risen 17% since February, and the institute expects the household energy price cap to increase by 12% in July.
Inflation, interest rates and labour market effects
The institute now forecasts consumer price inflation will peak at 4.1% in early 2027 before easing back to the 2% target in 2028. By comparison, inflation stood at 3.3% in March, up from 3.0% in February.
In light of higher inflation pressures, NIESR expects the Bank of England's Monetary Policy Committee to raise Bank Rate by 25 basis points this year. That contrasts with the institute's previous outlook, which had anticipated two cuts to Bank Rate.
On the labour market, unemployment is projected to rise to a peak of 5.5% in the fourth quarter of 2026, up from 4.9% in the three months to February. Wage growth is expected to slow as well, to 3.3% in 2027 from 3.8% in the three months to February.
Downside scenario and public finances
NIESR sets out a more adverse path in which hostilities resume and oil prices spike to around $140 per barrel. In that event, the institute says the UK would enter recession while experiencing inflation of around 5% later this year.
The energy shock will also weigh on public finances. Compared with the Office for Budget Responsibility's March forecast, NIESR expects higher debt-servicing costs and weaker growth. The institute notes the UK has not run a primary surplus since 2001.
Implications for markets and sectors
While the report does not issue market or investment recommendations, the analysis identifies clear pressures for household budgets via higher energy and petrol prices, for the labour market through rising unemployment and slower wage growth, and for public finances via larger debt-service requirements relative to prior forecasts.
Given the pinch on activity and the central bank's revised interest-rate path, sectors sensitive to consumer spending, energy input costs, and sovereign borrowing conditions could be most exposed as the shock unfolds.