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UK Braces for Attack on Welfare State

Chancellor of the Exchequer George Osborne poses for photographers outside 11 Downing Street.
Oli Scarff | Getty Images

The U.K.'s welfare state has a long and distinguished history, with elements of its healthcare recently being compared with President Barack Obama's Medicare reforms.

The National Health Service, a central tenet of the welfare state since its inception, was feted in the opening ceremony for this year's Olympics as the world watched the U.K. Yet it was one of the first targets for budget cuts from the government.

The Chancellor is widely expected to slash the welfare bill further in measures announced on Wednesday, in what some are seeing as an attack on the U.K. welfare state.

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"Welfare is a huge amount of the bill and something has to be done to be cut it, but to do it and get the LibDems on side, they are going to have to do something on taxes on the wealthy," George Buckley, U.K.economist at Deutsche Bank, told CNBC.

The divisions between the Conservative Party, led by Prime Minister David Cameron, and their junior coalition partner the Liberal Democrats, can be seen in their attitudes towards welfare cuts.

The Conservative Party is traditionally seen as the mainstream party most pro-business and in favor of cuts to the welfare bill.

Previous measures which are set to go through include removing child benefit from higher earners, cutting benefits for the disabled and reducing payments of a benefit known as tax credits for younger children in families. Housing benefits for young jobless will also be slashed.

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More cuts are expected despite division over whether austerity has worked so far. Many of the main economic indicators suggest demand is still weak. The construction order book is at its weakest since August, according to figures released Tuesday. And the Office for Budget Responsibility, which monitors the U.K.'s economy, is expected to reduce its forecasts for growth and, consequently, worsen its forecasts for deficit reduction.

"Slower growth has led to a fundamental deterioration in public finances," according to Simon Wells, chief UK economist at HSBC.

If the Chancellor's cuts aren't reducing the U.K.'s deficit enough, taxes may have to be raised elsewhere. In the last Budget, his proposals to cut the 50p tax rate for the highest earners caused outcry.

The issue of fair taxation and tax avoidance has also come to the forefront with revelations about how little tax some international companies pay in the U.K. "The little bookshop, the small coffee shop in your high street ... pay their taxes," Margaret Hodge,head of the influential Public Accounts Committee in Parliament, said earlier this week.

"Starbucks, Google and Amazon don't pay at the same rate and that's an unfair competitive advantage to the global companies."

While the Chancellor is expected to announce more staff will be hired to crack down on such practices, most believe that the difficult fiscal and political balancing act means he will be limited in what cuts and rises he can make.

"His only choice, once again, is to shift around the money he has to meet demands of competing groups," according to Vicky Redwood, UK economist at Capital Economics.

Written by Catherine Boyle, CNBC. Twitter: @cboylecnbc.