KPMG UK estimates the Government’s fiscal headroom has almost halved since the spring as higher borrowing costs place fresh pressure on the public finances ahead of the Autumn Budget.
The consultancy estimates the buffer against the Government’s fiscal rules has narrowed from £23.6bn to about £11.6bn. Its latest UK Economic Outlook also forecasts GDP growth of 1.3% in 2026 and 1.4% in 2027, after economic activity proved more resilient than expected during the first half of the year.
The combination illustrates the extent to which stronger near-term growth can be offset by financing costs. Higher gilt yields increase the cost of servicing government debt, while energy-price pressures and weaker longer-term growth assumptions can alter both spending and revenue forecasts.
KPMG expects growth to slow during the second half of 2026 as higher energy and borrowing costs weigh on households and businesses. Consumer spending supported activity earlier in the year, but rising bills and softer wage growth are expected to limit household purchasing power over the coming months.
Business investment remains a more mixed part of the outlook. KPMG says spending on artificial-intelligence software and equipment has supported growth and productivity, while investment conditions outside those areas remain constrained by financing costs and weaker demand.
The deterioration in fiscal headroom is therefore not a simple reflection of weaker GDP. Public finances are sensitive to gilt yields, inflation, employment, tax receipts, welfare costs, and assumptions about future productivity as well as the overall size of the economy.
Debt-servicing costs have become particularly important as market interest rates remain well above the levels seen during the decade before the inflation shock. Higher yields feed through as debt is issued or refinanced, reducing the benefit to the public finances from stronger tax revenues elsewhere.
The official position will be determined by the Office for Budget Responsibility rather than KPMG. Its forecasts ahead of the 28 October Budget will incorporate updated assumptions on growth, borrowing, inflation, tax receipts, spending, and financial markets, meaning the final headroom figure could differ materially from private-sector estimates.
The narrower buffer nevertheless illustrates the sensitivity of the Government’s fiscal position to market movements. A relatively small change in borrowing costs can absorb several billion pounds of capacity that might otherwise have been available for spending increases, tax reductions, or protection against weaker economic data.
Energy remains another source of uncertainty. Wholesale gas prices have risen amid disruption to supplies from the Gulf, while the Bank of England expects energy-driven inflation to rise further over the coming quarters. KPMG has warned that persistently higher energy costs could weigh on household demand while adding to the pressure on interest rates.
The labour market is weakening at the same time. Vacancies remain subdued, private-sector pay growth has slowed, and higher borrowing costs have discouraged recruitment. Softer wage growth can help contain domestic inflation, but it also reduces the scope for household incomes to absorb higher energy bills.
Those competing pressures have left the Bank of England balancing weaker employment conditions against renewed inflation risk. Bank Rate remained at 3.75% in September, although three members of the Monetary Policy Committee voted for an increase.
A smaller official fiscal buffer would reduce the Government’s room to absorb adverse changes in subsequent forecasts without changing tax or spending plans. The scale of any response will depend on the OBR assessment and the fiscal choices presented at the Budget rather than KPMG’s estimate alone.
The underlying constraint is the UK’s weak long-term productivity performance. Higher sustainable growth can improve revenues and create more room for both public and private investment, while persistently weak productivity keeps the tax base and living standards under pressure.
KPMG’s outlook points to an economy that has avoided some of the weaker scenarios feared earlier in 2026 but remains exposed to expensive capital, energy volatility, and slower household spending. The stronger growth forecast has improved the near-term picture, yet borrowing costs continue to determine how much of that resilience translates into usable fiscal capacity.
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