EY Warns Iran War Could Erase Chancellor’s Fiscal Headroom

Economists at EY have warned that Chancellor John Healey’s fiscal headroom could be entirely wiped out due to the ongoing Iran war. The Office for Budget Responsibility (OBR) forecast may need to be revised, as EY analysts suggest the buffer against the borrowing target has shrunk to just £11bn. They predict that if the conflict persists until mid-2025, an additional £18bn could be cut from the fiscal forecast, erasing Healey’s financial cushion.

The impact on public finances highlights the UK economy’s vulnerability to external events, particularly disruptions in the Middle East. EY’s worst-case scenario projects inflation soaring to 6%, slowing economic activity, and leaving Healey with a £7bn deficit in his 2029/2030 budget. The current headroom of £11.3bn assumes the reopening of the Strait of Hormuz by the time of the Budget.

However, the research also notes potential upside. A drop in unemployment could boost earnings and tax receipts, potentially increasing fiscal headroom by £40bn. Mats Persson, EY’s macro and geostrategy analyst, emphasized the UK’s exposure to global events, stating that energy market disruptions have already raised inflation, slowed growth, and pushed UK gilt yields to record highs for the century.

Persson suggested that while the geopolitical backdrop is beyond the government’s control, strengthening the UK’s economic resilience through productivity and business investment could help absorb future shocks. He acknowledged that this is a long-term strategy, but crucial for future fiscal stability.