Labour told not to spend what it can't afford trying to ease the cost of living: IMF's warning as it downgrades UK growth forecast

Labour has been warned not to splash out on cost of living measures that the country cannot afford as Britain's economic outlook was downgraded by the International Monetary Fund (IMF).

The IMF raised the alarm over the potential for high spending by countries facing a cost of living squeeze – and said they should instead be tightening their belts.

Its latest World Economic Outlook report made dismal reading for Chancellor John Healey as the UK and crisis-ridden France were the only two G7 countries to see growth forecasts for next year cut.

That was a blow to Prime Minister Andy Burnham's hopes of creating renewed prosperity and Labour's election pledge to deliver the highest growth among major advanced economies.

It comes as Mr Healey prepares for a Budget that will aim to deliver 'breathing space' amid surging energy bills – which are set to rise above £2,000 in the New Year.

In an intervention that may give the Chancellor second thoughts about any costly support package, the IMF said the need to rebuild public finances was 'urgent' and that any new spending measures 'should be well funded'.

 With debt soaring and bond market turmoil pushing borrowing costs higher, the IMF said governments today have 'less room to manoeuvre' than in the past – such as in 2022 when Britain splashed out more than £40 billion to protect households from soaring bills. 

The report said any government support measures 'should be used sparingly… and unwound rapidly as the shock dissipates'.

'Broad-based fuel subsidies, generalized tax cuts, and price controls should be avoided,' it said.

'These measures are typically poorly targeted, fiscally costly, distortionary, and politically difficult to withdraw once introduced.'

In a blunt warning to Britain and other advanced economies, the IMF urged them to tackle high levels of debt, so they can 'withstand future shocks'.

It said that 'borrowing costs have risen sharply…along with fiscal and credit risks.'

And it said 'fiscal buffers' – governments' financial headroom – intended to deal with ageing populations and climate change, have been used up to 'absorb repeated shocks.'

The combination of higher borrowing rates and elevated debt levels 'exposed vulnerability'.

In what the Chancellor may come to regard as unhelpful advice the IMF recommends 'strong and deliberate actions to rebuild buffers and shore up capacity to withstand fiscal shocks.'

That call for belt-tightening will add to the clamour for Labour to take an axe to the ballooning welfare bill – but given the PM's reluctance to do so may raise fears of further tax rises, on top of the £75 billion piled onto Britain by Rachel Reeves.

The language echoed comments from Bank of England governor Andrew Bailey, who last week warned that the Chancellor must deliver a 'credible' Budget or face more bond market turmoil.

The IMF cut its 2027 growth forecast for Britain from 1.3 per cent to 1.2 per cent 'as higher energy prices and long-term interest rates weigh on consumption and investment'.

France – which is grappling with a budget crisis, major student riots, and political paralysis – was the only other member of the G7 group of advanced economies to see its outlook downgraded for next year, from 0.9 per cent to 0.7 per cent.

Britain's forecast for this year was however upgraded from 1 per cent to 1.3 per cent after a better expected performance so far.

But despite continuing boasts from the Government that the UK is the fastest growing nation in the G7, it is projected to lag the United States, whose growth of 2.3 per cent expected in 2026 will be driven by artificial intelligence investment.

Britain will only perform in line with Germany despite the severe problems of that country's beleaguered car industry. France's struggling economy will barely grow this year, up by just 0.4 per cent.

The latest forecasts in the IMF's outlook, released at the Fund's annual meeting in Bangkok, show no improvement in Britain's soft jobs market with unemployment remaining at 5.3 per cent this year and next.

And inflation is expected to remain elevated at 3.3 per cent in 2026 before falling back to 2.8 per cent next year.

The continued upward pressure on inflation in Britain, with the cost of energy forecast to jump sharply in January, will intensify pressure on the Bank of England to raise Bank rate from 3.75 per cent to 4 per cent before the end of the year, lifting the cost of home loans and business lending.

Pressure on the Chancellor is intensifying with the influential Institute for Fiscal Studies predicting a £35 billion black hole in the public finances by the end of this Parliament.

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