IMF warns against budget cuts

The International Monetary Fund today called the government’s spending cuts into question, warning western countries that cutting budget deficits this year risked derailing economic recovery.

In remarks that appeared to favour the cautious approach to fiscal policy favoured by the former Labour administration, the Washington-based organisation said only countries facing severe problems in the markets needed to make early cuts.

“Most advanced economies do not need to tighten before 2011, because tightening sooner could undermine the fledgling recovery, but they should not add further stimulus,” the IMF said in an update to its twice-yearly world economic outlook.

The government announced £6bn of emergency spending cuts in its first week in an attempt to forestall speculative attacks on the UK that affected Greece and other euro area countries. The chancellor, George Osborne followed up with a severe budget last month.

In its updated report, the fund supported “ambitious and credible” plans to reduce budget deficits over the medium term, but said that in the near term any action should “depend on country circumstances, particularly the pace of recovery and the risk of a loss of fiscal credibility”.

The fund said that following last year’s 4.0% drop in output, Britain would grow by 1.2% this year, the second-slowest growth rate in the G7 group of industrialised nations and 0.1 points lower than its previous estimate in April. Next year, it expects growth to pick up to 2.1%, 0.4 points down on its April forecast.

This year’s forecast is the same as the UK government’s latest estimate, made in the emergency budget. But the IMF’s prediction for next year is below the 2.3% predicted by the Office for Budget Responsibility (OBR), set up by Osborne to produce independent economic forecasts.

A slowdown in Britain’s services and manufacturing sectors has triggered fears of a double-dip recession, with former Bank of England policymaker David Blanchflower saying the government’s austerity measures could cause another downturn. Adam Posen, a member of the Bank’s monetary policy committee, recently said the UK was “tentatively” recovering and risked falling back.

By contrast, the IMF reckoned the world economy was recovering faster than expected, although it warned that Europe’s debt troubles posed a big risk.

The fund upgraded its 2010 growth forecast for the world economy to 4.5% from 4.1% in April. It has raised its growth forecast for China to 10.5% this year from 10% in April, for Japan to 2.4% from 1.9% and for India to 9.4% from 8.8%.

The US also has stronger prospects, with growth forecasts revised higher to 3.3% from 3.1% this year and to 2.9% from 2.6% in 2011.

“While we predict the [world] recovery will continue, it is clear that downside risks have risen sharply,” said Olivier Blanchard, the IMF’s chief economist.

The eurozone is still expected to expand by 1% this year, as predicted in April, but next year’s prediction has been cut by 0.2 percentage points to 1.3%.

The director of the fund’s monetary and capital markets department, José Viñals, warned that Europe’s problems “could spill over to other regions and stall the global recovery”. He stressed that “further credible and decisive policy action is needed”, adding that “progress towards global financial stability has recently experienced a setback”.