This week brings together four stories that, on the surface, may seem disconnected - but together show a clear picture of where the UK economy is heading into the future. First, we’ve got a deep dive into the ballooning cost of public sector pensions, with new analysis suggesting the burden has climbed per household. Then we move into the manufacturing sector, where activity has finally ticked back into growth after more than a year of contraction, though the recovery remains fragile.
The third story looks outward, with the OECD upgrading the UK’s growth forecast for next year - but warning that fiscal tightening and tax rises will continue to hold back consumption. And finally, we break down the real impact of fiscal drag: how frozen tax thresholds are pushing millions into higher tax bands and quietly raising effective tax bills by 7-10% a year, despite headline tax rates staying the same.
Each theme links to the next - rising long-term liabilities, a private sector trying to stabilise, an economic outlook that looks better on paper than it feels in reality, and a tax system increasingly leaning on salary income to close the gap.
Read on for the full breakdown.
Every so often, a dataset lands that forces you to take a step back and ask how we’ve normalised the scale of certain long-term commitments. The latest analysis from former Bank of England economist Neil Record is one of those moments. His projection that the UK’s unfunded public sector pension liabilities will hit £5.8 trillion this year - up from £4.9 trillion just last year - translates into a household-level burden of £203,000, based on the roughly 28.6 million homes in the country. It’s a staggering figure.
This surge comes despite attempts over the last decade to control costs - final salary schemes scrapped in 2015, contribution rates rising, and salary-sacrifice incentives tightened. Yet the core structure remains largely untouched, even after the latest Budget cut the salary-sacrifice National Insurance allowance to £2,000 from 2029. Public sector workers still benefit from guaranteed, inflation-linked income for life, something the private sector has almost entirely abandoned due to cost. And employer contributions in the NHS and Teachers’ schemes continue to rise, adding £3.5bn and £2bn extra annually to taxpayer obligations.
What makes this sensitive is the widening divide. Private sector workers often receive as little as 3% employer pension contributions, while being told the state cannot afford the sort of certainty provided in the public sector. For younger people, already squeezed by frozen tax bands and rising housing costs, the contrast has become emblematic of a deeper intergenerational tension. As Angus Hanton put it, allowing these liabilities to accumulate feels like a commitment that “betrays younger people,” especially as productivity growth remains muted and the tax base increasingly strained.
The politics aren’t straightforward. The Treasury insists the £203,000-per-household figure is not recognised, pointing instead to the £1.3 trillion liability recorded in the Whole of Government Accounts, which uses discounting to calculate the present value of future promises. But even if you take the more conservative figure, the direction of travel is unmistakable: rising longevity, higher wages, and expanding public sector headcount mean costs will keep drifting upward unless policy changes meaningfully.
As Record warned, the generosity of these schemes “is both morally and economically indefensible to expect future generations of taxpayers to pay for pensions they won’t and can’t have themselves.”
Against this backdrop of rising long-term liabilities, Britain’s manufacturing sector has delivered a rare piece of positive news: the first increase in activity since September 2024. The S&P Global Manufacturing PMI nudged back above the crucial 50 line - to 50.2, up from 49.7 - signalling a shift from contraction to marginal growth. The improvement was driven by stabilising domestic orders and a slower decline in export demand, breaking a 13-month run of falling new business.
Output growth came almost entirely from investment goods, while consumer and intermediate goods continued to fall, with smaller manufacturers struggeling and only the largest firms managing to expand production. Manufacturing output in Q3 was still 1% lower than a year earlier, partly due to the high-profile cyberattack that shut down production at Jaguar Land Rover. So, although the PMI hints at momentum, the underlying picture is one of a sector still trying to find its footing.
Employment however continues to contract, albeit at the smallest rate in a year. Firms blamed the combination of slowing order books, the 7% minimum wage rise, and higher employer National Insurance contributions - all pushing labour costs up at a time when pricing power is weakening. In fact, manufacturers’ selling prices fell for the first time since October 2023, suggesting margins are being squeezed even before the full effects of higher taxes and threshold freezes feed through.
Manufacturers seem cautiously aware of both sides of the story: marginal growth today, but significant headwinds still gathering. As S&P put it, “November saw a stabilisation in new business following a 13-month sequence of contraction,” signalling relief - but not yet renewal.
Internationally, the UK’s forecast for 2025 looks surprisingly resilient. The OECD now expects the economy to grow 1.2% next year - faster than France, Germany, or Italy - and has upgraded Britain’s outlook from its previous 1% projection. But the headline masks a deeper problem: growth is being supported by short-term factors, while domestic demand is being suppressed by fiscal strategy.
The OECD is explicit about this. Past tax rises and ongoing “fiscal consolidation” will act as a headwind to household spending, as frozen thresholds and higher overall taxation weigh on disposable income. The broader global context also matters. The flurry of production activity driven by Trump-era tariffs has now cooled, and the OECD expects global growth to fall from 3.3% in 2024 to 3.2% in 2025, then 2.9% in 2026. Labour markets remain tight, but job openings have already returned to 2019 levels. For the UK, this means that even with interest rates gradually edging down - expected to hit 3.5% by mid-2026 - there’s limited room for a consumer-led recovery.
Political uncertainty isn’t helping. The resignation of Richard Hughes, chair of the OBR, has raised questions about governance and transparency just as the Treasury relies heavily on its forecasts to justify difficult decisions. When forecasts are used to underpin tax freezes affecting millions, the credibility of the institutions behind them matters.
Still, Reeves welcomed the OECD’s improved growth projection, arguing that her Budget will “cut borrowing and debt and cut the cost of living.” Whether households feel that way is another question. As the OECD summarised the global picture: “Activity has held up thanks to front-loading of production and trade, strong AI-related investment and supportive fiscal and monetary policies,” but the underlying trajectory is toward slower, more fragile growth.
Perhaps the most consequential part of the Budget wasn’t what changed - but what didn’t.
Income tax, VAT, and National Insurance rates remain untouched. Yet almost every worker in the UK will pay more tax from 2026. Much more. Fiscal drag - the freezing of tax thresholds until 2031 - means that as wages rise, workers drift into higher tax bands without any explicit announcement. For someone earning £35,000–£40,000, that translates into a 7% increase in tax from next April; for those above £40,000, the rise is 8–9%; and for minimum-wage earners, around 10%.
The mechanics are straightforward but brutal. Wage growth of around 4.8% (per ONS) doesn’t just increase taxable income, it pushes thousands of people past fixed thresholds. On a median salary of £39,000, that typical pay rise results in a 7.1% jump in combined tax and National Insurance. And because thresholds are frozen for another seven years, this effect compounds annually. By 2031, the median salary is projected to reach £49,825, meaning half of all UK workers would fall into the 40% tax band - a rate originally designed only for high earners.
The scale of the stealth increase explains why the OBR expects a £22bn improvement in day-to-day public finances by 2031. It’s not growth driving the improvement; it’s higher automatic tax intake. And this is before factoring in Reeves’s other changes, such as the £2,000 salary-sacrifice cap on pension contributions and the 2-percentage-point rise in dividend tax - both of which push more income into the very system being tightened by fiscal drag.
Minimum wage policy complicates the picture further. The gap between minimum wage (£26,400 per year full-time) and the average salary (£39,000) is now less than 50%. Businesses face rising labour costs at the same time higher taxes reduce take-home pay, weakening incentives to hire and to progress. Vacancy numbers and total employment are already trending down.
Layered together, these measures create a picture of a tax system quietly pulling more from workers each year while giving the impression that “nothing has changed.” But the numbers tell their own story - and as Sarah Coles of Hargreaves Lansdown warned, freezing thresholds doesn’t just affect earnings: “Your personal savings allowance shrinks, your capital gains tax rises, and your dividend tax rate increases as you move into higher bands… everyone, whatever their income, needs to consider the steps they can take to protect themselves.”
This week’s stories all point to one underlying shift: the UK is entering a phase where the tax burden is rising sharply just as household incomes and confidence remain under pressure.
Public sector pension liabilities are growing far faster than the system built to support them, placing a heavier future burden on taxpayers. Manufacturing may have flickered back into growth, but firms are still cutting jobs and absorbing higher costs, making it clear that resilience is being stretched thin. Meanwhile, the OECD’s upgraded growth forecast offers reassurance - but only in the context of a global environment slowing under tighter policy, cooling trade, and long-term structural challenges. And running through all of this is fiscal drag, the quiet force steadily pulling millions into higher tax bands and reshaping the tax landscape far more aggressively than most people realise.
It underscores the importance of navigating the year ahead with a clear understanding of where pressures are building, where opportunities still exist, and how to balance both stability and growth in an environment that’s tightening from all sides.