UK Economy Faces Recession if Strait of Hormuz Remains Closed: EY Warns

The UK economy could face a recession in 2027 if the critical Strait of Hormuz remains closed to shipping, according to the latest economic outlook from Ernst & Young (EY). The consultancy's warning projects that under a scenario where the vital waterway, through which approximately a fifth of the world's oil and natural gas passes, remains shut until early to mid-2027, gross domestic product (GDP) growth would slow sharply to 0.5% this year and contract by 0.2% next year.

EY's report further cautioned that inflation could soar to 6.4% by the end of 2026 under the prolonged closure scenario for the Strait of Hormuz. Conversely, if the Strait reopens by the end of the third quarter of this year, EY's base case forecast suggests a more resilient growth of 0.8% for 2026 and 1.2% for 2027, with inflation peaking lower at 3.5% this year. The Bank of England (BoE) is expected to hold interest rates steady this year and then implement two cuts in 2027, bringing the rate down from 3.75% to 3.25% in April and July.

These economic warnings coincide with a drop in oil prices following an announcement by US President Donald Trump that negotiations with Iran to reopen the Strait of Hormuz are set to begin. Brent crude oil prices fell by approximately $4-$5 per barrel, pushing them back towards the $83-$84 mark, on this diplomatic breakthrough. Trump stated he had called off a planned military attack on Iran, while Iran's Foreign Minister also indicated that talks with Oman regarding a new route through the Strait were in their final stages. The Strait of Hormuz has been largely blockaded since the outbreak of the US-Iran war in late February, affecting about 20% of global oil and liquefied natural gas (LNG) shipments. Additionally, OPEC and its allies (OPEC+) approved an increase in oil production quotas of approximately 188,000 barrels per day starting from September.

In the broader markets, European stocks opened higher, with the Stoxx Europe 600 index gaining between 0.4% and 0.5%. However, the UK's blue-chip FTSE 100 index remained flat or saw a slight decline. Energy giants like BP and Shell saw their shares fall by 2.8% and 2% respectively, impacted by the weaker oil price. Meanwhile, US long-term borrowing costs surged, with the 30-year US Treasury yield climbing to a 19-year high of 5.24% after the Federal Reserve (Fed) held interest rates steady in the 3.5%-3.75% range but offered little clear forward guidance. This move fueled investor concerns over inflation and geopolitical risks.

Looking ahead, markets will be closely monitoring key economic data, including the latest US labor market figures (non-farm payrolls, unemployment rate) and China's inflation data. Furthermore, 20% of S&P 500 companies are scheduled to report their earnings this week. Investors will pay particular attention to reports from technology firms like Palantir (PLTR) and SanDisk, as well as the eagerly anticipated first earnings report from SpaceX since its initial public offering (IPO).

Analysts emphasize that the trajectory of tensions in the Strait of Hormuz and the outcome of US-Iran negotiations will be crucial determinants for global energy markets and, consequently, the inflation outlook. The uncertainty surrounding the Fed's interest rate path and ongoing geopolitical risks could sustain market volatility. This week's earnings reports are expected to provide significant clues regarding whether the tech sector sell-off has concluded.