Profits and pay growth face inflation and investment squeeze as economy forecast to slow
One of Britain’s leading business groups cut its forecast for economic growth this year and next after the economy was hit by a double blow of the government’s payroll tax increases and US tariffs.
The Confederation of British Industry (CBI) expects GDP to grow by just 1.2 per cent this year and 1 per cent next year, down from the 1.6 per cent and 1.5 per cent previously predicted.
It warned higher employment costs would hit recruitment and business investment and are also expected to push up prices, reduce profits, and hit pay growth.
The increase in employer National Insurance contributions and rise in National Living Wage in April 2025 resulted in “significantly increased” labour costs for companies, especially in the retail and hospitality sectors.
The increase forced firms to curb their hiring and investment plans, and is expected to raise prices, the CBI said. Company profits and workers’ pay growth will be squeezed by higher inflation and slower growth in business investment and employment over the next two years.
Businesses are also struggling with higher US tariffs from President Trump’s administration, which have been impacting exports to the US and wider world trade more broadly, as well as hindering investment from multinational companies in the UK.
The trade agreement signed this week would mitigate the impact of tariffs for the UK steel, aluminium, and car makers, but the CBI pointed out that the deal only covers less than 1 per cent of total UK exports.
“This means that products accounting for around 5 per cent of total UK exports will face the new 10 per cent tariff rate, while a further 1 per cent will be left at risk to potential future tariffs (pharmaceuticals). As a result, we expect that the agreement will have a minimal impact for the UK at a macroeconomic level,” it said.
It expects inflation will remain above 3 per cent for the rest of the year driven by rising energy costs and regulated prices like water bills before easing to around 2.5 per cent next year.
Economic growth in 2026 will be largely driven by household spending, the CBI said, with consumers encouraged to spend more on the back of rising real incomes, lower interest rates, and falling inflation. It warned a weaker jobs market could slow consumption.
The forecasts were made before fighting between Israel and Iran broke out last week pushing up oil prices. The CBI said it was monitoring any impact on UK households, businesses, and inflation.
It stated that it was ‘vital’ for the government’s soon-to-be-published industry strategy to help boost businesses. “The unpredictable global outlook combined with rising employment costs, gloomy business sentiment, and subdued investment intentions means it’s more important than ever that the government pulls all the levers it can to set the UK on a path to sustainable growth,” Louise Hellem, CBI chief economist, said.
The CBI does not expect measures unveiled in the Spending Review last week to have much of an impact on growth in 2025 and 2026, although they saw a benefit in the long term.
“The Spending Review signalled a down payment on hardwiring the growth mission into government priorities, with targeted investment that will raise the long-term ceiling of the economy,” Hellem said.
“Unlocking investment through a comprehensive skills strategy, funding the Growth & Skills levy, tackling high energy costs for UK firms, and setting out a national strategy on tech adoption could help to establish a reinvigorated partnership model for effective collaboration between both government and business,” she said.
It warned that the UK is still missing a “joined-up people strategy” to ensure industry has the skills and the labour needed to go after growth opportunities.