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Jeremy Hunt has vowed to forge ahead with tax cuts even as the International Monetary Fund (IMF) warned Britain’s growing debt pile and ageing population meant they were unaffordable.
The Chancellor insisted “smart tax reductions” would boost the British economy as the IMF predicted a rapid drop in inflation would pave the way for the Bank of England to cut interest rates twice this year.
Mr Hunt was forced to defend his tax-cutting plans following the IMF rebuke, as officials at the Fund also suggested a post-election departmental spending squeeze was unrealistic and was not included in its own forecasts.
The IMF has previously called on the Chancellor to scrap stamp duty and reform the triple lock to boost growth and the public finances.
An IMF spokesman said paying for net zero and “preserving high-quality public services” implied “higher spending needs over the medium term than are currently reflected in the government’s budget plans”.
Achieving this while bringing down debt implied “additional high-quality fiscal savings, including on the tax side,” the spokesman added. “It is in this context that staff advise against further tax cuts.”
Officials described spending plans after 2024-25, including an implied £20bn spending squeeze outside protected budgets such as health and education, as “very challenging”, as a spokesman revealed that IMF staff had refused to bake these projections into their own forecasts for the UK economy.
IMF projections suggest the Government will have to find an extra £40bn in today’s terms to top-up non-interest spending after the next election, with current plans implying “a reduction in non-interest expenditure between 2024-25 and 2028-29 of about 1.5 percentage points of GDP”.
The IMF spokesman added: “Staff’s view is that this reduction will be very challenging to achieve given the need to address well known demands in health and social care, and to undertake critical public investments in skills, innovation, infrastructure and the green transition.
“Accordingly, staff’s recent forecasts have assumed that the non-interest spending to GDP ratio remains broadly unchanged over the medium term.”
The IMF believes the UK economy will grow by 0.6pc this year, the second slowest in the G7 after Germany.
Growth in 2025 is expected to rise to 1.6pc, although this represents a downgrade from its October forecast of 2pc.
It said falling inflation had paved the way for “an easing in financial conditions and permits real incomes to recover”, though Pierre-Olivier Gourinchas, chief economist at the IMF, warned investors were “excessively optimistic about the prospect for early rate cuts”.
It believes the Bank of England will start cutting rates from their current level of 5.25pc in the second half of the year. Rates are expected to fall to 4.75pc by the end of 2024.
“The markdown to growth in 2025 of 0.4 percentage point reflects reduced scope for growth to catch up in light of recent upward statistical revisions to the level of output through the pandemic period,” the IMF said in its latest global outlook.
In brighter news, the IMF said UK inflation was likely to keep falling to around 2.3pc in the second quarter, from 4pc in December, as it predicted a “soft landing” for the global economy.
IMF staff expect inflation to “durably reach the 2pc target in early 2025”.
Responding to the IMF’s forecasts, Mr Hunt said: “The IMF expects growth to strengthen over the next few years, supported by our introduction of the biggest capital investment tax reliefs anywhere in the world, alongside national insurance cuts to improve work incentives.
“It is too early to know whether further reductions in tax will be affordable in the Budget, but we continue to believe that smart tax reductions can make a big difference in boosting growth.”
The Bank of England is expected to keep rates on hold at its first interest rate meeting of the year this week as investors look for clues as to when Threadneedle Street will start cutting rates.
Mortgage rates have already started to fall. Data from the Bank of England showed rates paid on new mortgages dropped for the first time in more than two years.
Homebuyers purchasing in December paid an average rate of 5.28pc on their loans, down from 5.34pc a month earlier. This was the first drop since November 2021, before the Bank of England began raising interest rates from a record low of 0.1pc to 5.25pc.
Mortgage approvals jumped for the third month in a row to hit 50,500, up from 49,300. This was still well below the pre-pandemic average of 66,000, but analysts said the increase was a sign of green shoots in the property market.
Mr Gourinchas at the IMF, said governments around the world were likely to steer away from fiscal discipline this year as they focus on winning elections.
“Fiscal consolidation measures that governments have announced for 2024-25 may be delayed as many countries face rising calls for increased public spending in what is the biggest global election year in history. This could boost economic activity, but also spur inflation and increase the prospect of disruption later,” he said.
The global economy is expected to expand 3.1pc this year and 3.2pc in 2025. This is slightly higher growth than it predicted last October.
Mr Gourinchas said: “The clouds are beginning to part. The global economy begins the final descent toward a soft landing, with inflation declining steadily and growth holding up. But the pace of expansion remains slow, and turbulence may lie ahead.”
Separate data published by the Insolvency Service showed the number of companies that failed rose to a 30-year-high last year, as soaring interest rates and stubborn inflation battered the economy.
Some 25,158 firms became insolvent – meaning they ran out of money to cover debts and bills. This is the highest annual figure since 1993, according to official figures from the Insolvency Service.
Hospitality and leisure businesses had a particularly tough 2023, with the number of failures surging by 28pc.
Economists have previously cast doubt over the Government’s implied spending squeeze. Rachel Reeves, the shadow chancellor, has accused the Tories of enacting a scorched-earth policy to leave the worst possible inheritance for an incoming government in terms of the economy.
The Office for Budget Responsibility (OBR) has previously said that since 2010, governments have consistently topped up their spending plans by an average of £30bn compared with initial projections.
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