No feelgood factor for Reeves as Iran war snuffs out economic upturn

Rise in unemployment and weak pay growth underline how tough this year will be for UK households

UK unemployment unexpectedly rises to 5%

News that the UK unemployment rate jumped back to 5% in March appears to be the latest evidence that the Iran war has snuffed out the economic upturn Rachel Reeves had hoped to see in 2026.

The Office for National Statistics reports that, after an unexpected fall in the unemployment rate to 4.9% in last month’s data , it ticked back up to 5% between January and March – the first set of figures affected by the conflict.

The chancellor wanted this to be the year she could claim to have brought stability to the economy and public finances, with falling inflation and widely expected interest rate cuts restoring the feelgood factor.

Instead, the Iran war has unleashed a fresh wave of inflation – with the latest data on this to come on Wednesday – and rocked business confidence.

More timely employment data, using PAYE data from HMRC, suggest a more significant shock may be under way than is obvious from the standard Labour Force Survey.

The number of payrolled jobs in the economy fell 100,000, or 0.3%, in April on this measure – though the ONS stresses that this is a provisional estimate. That was the third-largest single monthly fall since this series began in 2014. The annual rate of decline in payrolled jobs, at 0.7%, was the fastest for five years.

Young people are being hit particularly hard by the jobs downturnThe unemployment rate among 18- to 24-year-olds stands at 14.6%, its highest level for 11 years.

The data also underlined how tough the next few months are likely to feel for households. Regular pay, excluding bonuses, increased at a rate of just 3.4% from January to March, the ONS says.

That was the weakest rate since August-October 2020, in the depths of the Covid pandemic, and will mean many families have already started to feel the pinch as prices rise. In the private sector, regular pay growth was just 3%.

If there is a modest silver lining, it may be that such anaemic pay growth helps to still some of the worst fears of Bank of England policymakers, that workers could bid up their wages in response to the price shock, helping inflation to become entrenched.

That becomes harder to imagine in a labour market in which unemployment is rising and wage growth is at its weakest for more than five years.

Edward Allenby, the senior economist at Oxford Economics , said: “Rising price pressures mean UK households face a severe squeeze on their finances over the next couple of years.

“We think workers will struggle to secure stronger pay rises to mitigate the impact of the inflation shock, which will be compounded by tighter fiscal policy and higher debt servicing costs.”

The Bank’s monetary policy committee (MPC) will have to decide whether to raise interest rates next month to forestall such second-round effects, and the weakness of the labour market is a vital factor they are monitoring.

Sanjay Raja, the chief UK economist at Deutsche Bank, suggested the jobs data was likely to “stop the MPC in its tracks”, which could at least forestall the additional pain of higher borrowing costs. “This is the sort of data that will allow the MPC to stay on hold for longer while it digests the impact of the Iran conflict,” he said.

Andrew Wishart, the senior UK economist at Berenberg, went further, suggesting that an early resolution to the Iran war could take rate hikes off the table altogether. “The market still prices three hikes today, but the labour market is too weak to bear them,” he said. “In our base case in which the strait of Hormuz reopens soon, we think [the Bank] would remain on hold before resuming cuts at the end of the year.”

For Reeves and her under-pressure boss, Keir Starmer , though, the data suggest that while the International Monetary Fund may have given the chancellor their seal of approval , households hit hard by rising unemployment and squeezed living standards are unlikely to be feeling sympathetic.