The International Monetary Fund has moved a step closer to withdrawing its support for the UK’s economic strategy, advising the government to redraw its fiscal tightening plan if growth disappoints in the coming quarters.
The IMF said in its Fiscal Monitor report, published on Tuesday, that Britain should relax its fiscal consolidation strategy, aimed at canceling the U.K.'s structural deficit by 2017, if the economy remained weak.
The remarks will pile pressure on George Osborne, chancellor of the exchequer, to switch to a “plan B” to boost the ailing economy, which has contracted over each of the past three quarters.
In its World Economic Outlook also published on Tuesday, the IMF revised down its global growth forecast for 2013 from 3.9 percent to 3.6 percent, but warned that a “slow and bumpy” recovery could be derailed by the failure of U.S. and euro zone policy makers to tackle their fiscal woes.
The fund sharply revised its forecast for the U.K. economy this year from growth of 0.2 per cent to a contraction of 0.4 per cent. The fund now expects growth of 1.1 per cent next year, rather than 1.4 per cent.
But if growth undershoots these estimates — and monetary policy and automatic stabilizers, which allow for the lower tax revenues and higher benefit payouts associated with a weak economy, failed to lift the economy — then the IMF advised the U.K. to reconsider the timing of its fiscal retrenchment.
“If growth should fall significantly below current projections, countries with room for maneuver should smooth their planned adjustment over 2013 and beyond,” the fund said, adding that they included the U.K.
The IMF’s enthusiasm for the government’s economic strategy, which it initially supported, has waned over the course of 2012.
A U.K. Treasury spokesman said: “In line with other recent forecasts, the IMF are today showing a downward revision to growth prospects across both advanced and emerging economies, which is why they repeat their advice that the first line of defense against this should be to allow the automatic stabilizers to operate, monetary policy easing and measures to ease the flow of credit – all of which the U.K. is doing.”
The fund also provided ammunition to critics of austerity, concluding that governments around the world had systematically underestimated the damage done to growth by tax rises and spending cuts.
The IMF argued that evidence from 28 countries showed that so-called fiscal multipliers, used by governments to assess the impact on growth of fiscal cutbacks, had been too favorable. A smaller multiplier implies fiscal consolidation is less costly.
According to the IMF, policy documents seen by fund officials suggest that governments are commonly using fiscal multipliers of about 0.5 to calculate the impact of austerity on growth. A multiplier of 0.5 would mean that for every $1 lost in government spending, 50 cents was wiped from output.
“Our results indicate that multipliers have actually been in the 0.9 to 1.7 range since the great recession,” the fund said.