Episode Details

Our Global Head of Fixed Income Research Andrew Sheets and Chief UK Economist Bruna Skarica discuss why they see a more constructive UK outlook than markets do, despite energy, fiscal and political risks.

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----- Transcript -----

Andrew Sheets: Welcome to Thoughts on the Market. I'm Andrew Sheets, Global Head of Fixed Income Research at Morgan Stanley. 

Bruna Skarica: And I'm Bruna Skarica, Morgan Stanley's Chief UK Economist. 

Andrew Sheets: Today, the debate around growth and debt in the United Kingdom. 

It's Wednesday, May 20th at 2pm in London. 

Bruna, I'm so glad you could join us today because I actually really did want to talk about what's going on here in the United Kingdom. I don't think it's an exaggeration to say that this is the country where you hear some of the strongest divergence of opinions. 

Pessimists point to political uncertainty, vulnerability to oil prices from the Strait of Hormuz, and rising bond yields. And yet, UK growth this year has been pretty good. Inflation is set to come down, and the currency's been pretty stable, hardly the stuff of big instability. 

So, Bruna, I was hoping you could help us set the scene. Let's start with how you see the economy. 

Bruna Skarica: I actually think your framing is perfect. For the past five years, there has been a striking divergence of opinion on the UK, which I do think mimics to a degree some of the divisions on the Bank of England's Monetary Policy Committee. 

The question really is – has the country underwent structural changes in the past decade of supply-side shocks such that its potential growth is very low, perhaps as low as 1 percent on the year. And has the inflationary process shifted in such a way that, for example, we need much higher jobless rate in order to generate enough economic slack to get inflation down to 2 percent? 

Or the other question is, has the UK just had a unique string of external shocks amplified perhaps by domestic policy choices, which mean that we have seen a prolonged period of low growth and high inflation – but again, without major structural changes. 

We are in the more constructive structural camp. I actually think that's probably Morgan Stanley's biggest out of consensus call in the UK. In recent years in particular, we have seen quite robust CapEx. And last year, actually very healthy private sector productivity gains. When you adjust for accurate labor market data, UK's private sector productivity growth is just under 2 percent as of the end of 2025, actually not too far off from the U.S. 

But for these good structural trends to persist and continue to improve, we do need a more supportive cyclical environment. And there, unfortunately, given the rise in oil prices, it's hard to be overly constructive about growth and inflation in the UK this year. 

We've downgraded our growth forecasts to around 1 percent over [20]26 and [20]27, and we have lifted our inflation projections by around 150 basis points at their peak to a peak of around 3.5 percent later in the year. 

Andrew Sheets: So, Bruna, how much does the price of oil or the price of natural gas matter for this outlook, especially as the Strait of Hormuz remains effectively shut? 

Bruna Skarica: It does matter a fair bit. We use Morgan Stanley's commodity team's forecasts in our own scenario analyses for the UK economy. Now, their base case still sees a gentle decline in oil prices this year, which leads to outcomes I've already mentioned. 

The activity flatlines from the second quarter, we have a rise in inflation from April onwards, but we don't have a recession. However,