The UK economy has contracted for the first time in two years, caught in the crossfire of escalating conflict in Iran. The Office for National Statistics reported a 0.3% drop in GDP for the second quarter, driven by a sharp decline in business investment and exports.
This is the bottom line: capital flight and rising uncertainty are poisoning the well of economic growth. The Iran war has sent shockwaves through global supply chains, with oil prices spiking 15% since the conflict began, hitting 18-month highs above $90 a barrel. For a net importer like the UK, this is a direct tax on consumers and businesses alike.
The FTSE 100 has shed 4% this week alone, while gilt yields have risen to 4.5%, reflecting a classic flight to safety. But safe haven status?
Not for sterling, which has fallen 3% against the dollar to $1.25. The market is pricing in a higher risk premium on UK assets, and rightly so given the government's fiscal incontinence.
The Chancellor has already pledged an extra £10 billion in defence spending, but with public debt at 98% of GDP, where is the money coming from? More borrowing, more inflation, more pain. The Bank of England faces a dilemma: cut rates to support growth or hold tight to curb inflation.
The hawks will argue that inflation at 4.2% is still too high, but the doves will point to the contraction. I suspect the Bank will hold steady, which means the economy will be left to adjust.
And adjustments are never pleasant. The real worry is contagion. If the Iran conflict drags on, we could see a repeat of the 1970s oil crisis.
Then, the UK endured stagflation: stagnant growth and double-digit inflation. Today, the economy is even more leveraged. Household debt is 140% of income.
Any further shock could tip the housing market into a correction. The bottom line is clear: wars produce losers. For now, the UK is in the red.
