Further deterioration in Middle East conflict could deal a £16 billion hit to the public finances 22 April 2026 A severe but plausible scenario, in which a deterioration in the Middle East conflict sustains some of the worst hits to the UK economy so far, could result in a £16 billion borrowing hit – massively reducing the Chancellor’s headroom against her fiscal rules, according to new Resolution Foundation research published today (Wednesday). With the conflict in the Middle East already dealing a domestic blow to living standards – petrol prices are up 20 per cent, diesel is up 36 per cent, and energy bills have been forecast to rise by up to 20 per cent in July – the research examines its wider economic impact on growth and the public finances. The Foundation notes that the domestic economic fallout from the conflict in the Middle East has so far been far more muted compared to Russia’s invasion of Ukraine. Back in 2022, gas prices rose 300p per therm post-invasion, compared to a peak rise of 78p in March 2026. However, the UK does appear to be more vulnerable than most when it comes to how the conflict is affecting its economy. Despite UK GDP being half as energy-intensive as the world average, both the IMF and OECD have downgraded UK growth by 0.5 percentage points this year – the biggest markdowns for any G7 economy. This is likely because of Britain’s exposure to gas – which accounts for 62 per cent of household energy consumption, more than any other G7 economy – and the heightened sensitivity of UK interest rates to global news. It notes that, for a typical recent first-time buyer reaching the end of their fix, monthly mortgage costs have increased by around £100 since the start of the war. While the future direction of the war is unknowable, a further deterioration in the conflict could deal a significant blow to growth and the public finances. To illustrate this the report models a severe but plausible scenario in which some of the largest falls in assets prices seen since the start of the war – including a 9 per cent fall in equities and a roughly 0.5 percentage point increases in interest rates – are sustained, and UK GDP is 0.9 per cent lower in three years’ time. Under this scenario, borrowing would be around £16 billion a year higher in 2029-30, wiping out nearly three-quarters of the headroom the Chancellor built up in her last Budget. Crucially, though, her fiscal rules would still be intact even in this severe scenario thanks to that additional headroom. The Foundation says that with such a backdrop the Chancellor should ensure any support with energy bills is targeted and temporary. Providing unfunded universal support risks pushing interest rates higher. For example, borrowing £20 billion to provide additional support for households would be expected to push up mortgage rates by a further 0.4 percentage points. When it comes to the monetary policy response to the current energy price shock, the report argues the economy may leave the Bank of England scope to avoid needing to overreact. While it is right to worry about a repeat of the wage-price spiral seen in the wake of Russian’s invasion of Ukraine, the economic climate today is very different. The labour market is in a weaker state today than it was back then – unemployment is currently 4.9 per cent, compared to 3.8 per cent back in March 2022. Workers are therefore unlikely to be able to secure big pay rises in the face of rising inflation and could instead face painful real wage cuts. This should give the Bank pause for thought when it considers whether to raise interest rates in response to a temporary rise in inflation, says the Foundation. Simon Pittaway, Senior Economist at the Resolution Foundation, said: “No-one knows which direction the current conflict in the Middle East will take, but we do know that it will make us all poorer. The cost of filling up the car has already increased, and from July, so too will energy bills. “The conflict is going to make the state poorer too. A deterioration in the conflict that sustains some of the worst hits to the economy could deal a £16 billion hit to the public finances. “The Chancellor deserves credit for building up enough of a buffer in last year’s Budget to withstand a hit of this scale. And by keeping any support with energy bills targeted and temporary, she should be able to weather this latest economic shock with her fiscal rules intact.”
