The UK Government should consider cutting VAT or national insurance and increasing state investment in infrastructure to boost growth if the economic situation worsens, according to the International Monetary Fund.
The Bank of England should act now to inject some vigour into a “flat” economy by printing money in a new round of quantitative easing or even cutting the 0.5% base interest rate below its current historic low.
In an annual report on the state of the UK economy, the IMF said deficit reduction was “essential” in the medium term and paid tribute to the “substantial progress” towards a sustainable budget delivered by the coalition government’s austerity programme.
“When I think back to May 2010, when the UK deficit was at 11%, and I try to imagine what the situation would be like today if no such fiscal consolidation programme had been decided, I shiver,” said IMF managing director Christine Lagarde.
The report warned of the “large” risk of an escalation in the eurozone crisis which would deliver a “substantial contractionary shock” to the UK economy.
In the case of such a shock, such as Greek withdrawal from the single currency or a failure of the UK economy to escape double-dip recession, the authorities should be prepared to implement short-term measures to shore up growth and to put back the target for balancing the books beyond the current date of 2017.
“If the economy turns out to be significantly weaker than forecast, fiscal easing should be considered,” Ms Lagarde said.
“Measures should be focused on supporting growth and employment.”
She warned that the UK economy had under-performed and unemployment remained “much too high”.
Growth is expected to pick up in the latter half of this year, but much productive capacity could “remain idle for a protracted period”.
“Policies to bolster demand before low growth becomes entrenched are needed,” she said.
The report came as the Organisation for Economic Co-operation and Development (OECD) said the eurozone was close to “a severe recession” which would have knock-on effects on the rest of the world.
Chancellor George Osborne warned that the eurozone was reaching “a critical point” and confirmed Britain was preparing to deal with the consequences of failure in the single currency.
He welcomed separate figures showing inflation fell to 3% on the Consumer Prices Index in April – its lowest level for 26 months.
“The IMF couldn’t be clearer today – Britain has to deal with its debts and the government’s fiscal policy is the appropriate one and an essential part of our road to recovery,” said Mr Osborne.
“I welcome the IMF’s continuing support for the UK deficit reduction plan.
“They agree that, in their words ‘reducing the high structural deficit remains essential’ and make clear in their statement that they consider the current pace of fiscal consolidation to be appropriate.”
Shadow chancellor Ed Balls said the IMF’s report amounted to an endorsement of Labour calls for a “Plan B” to boost jobs and growth.
“The IMF is right to call for action to boost the British economy and to stop slow growth and high unemployment causing long-term damage to our economy,” Mr Balls said.
“A year ago, the IMF warned that if economic growth undershot expectations, the government should boost the economy with temporary tax cuts and greater infrastructure spending – as Labour has called for in our five-point plan for jobs and growth.
“Since then our economy has been pushed into a double-dip recession.
“How much worse do things have to get before David Cameron and George Osborne finally take action?”
