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‘Negative and substantial’ impact on UK if it leaves EU: IMF

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Oli Scarff | Getty Images

Should U.K. voters choose to leave the European Union (EU) in a referendum next week, the net economic effects "would likely be negative and substantial," the International Monetary fund (IMF) warned on Friday.

While recognizing that the vote on June 23 was "a choice for U.K voters to make and that their decisions will reflect both economic and noneconomic factors," the IMF issued a stark warning to the country at a time when polls show a very tight race between the "Leave" and "Remain" camps.

"(IMF Executive) Directors agreed that the net economic effects of leaving the EU would likely be negative and substantial. In the event of a vote to leave, Directors recommended that policies be geared toward supporting stability and reducing uncertainty," the IMF said in its latest report on the U.K. economy.

The Fund's baseline scenario was for the U.K. to remain a part of the 28-member economic and political bloc after the vote next Thursday. If this scenario played out, the economy was expected to recover in late 2016 "as referendum-related effects wane, and to average around 2.2 percent (growth) over the medium term."

In addition, the IMF noted, inflation was expected to rise gradually from its current low level of 0.3 percent as of May 2016, as disinflationary effects from past commodity price falls dissipate and as tighter labor markets and minimum wage hikes help push up wages.

Whatever the outcome of the referendum, the IMF said that "this broadly positive baseline scenario is subject to risks including those surrounding the current account deficit, which reached a record high in 2015; uncertainty about the degree to which productivity growth, which has been low since the crisis, will recover; and vulnerabilities associated with property markets, which have been buoyant in recent years."

In addition, uncertainties related to the global environment and still-high levels of household debt in the U.K. were potential risk factors, the Fund warned.

In the event of a vote to remain in the EU, the IMF's executive board said that macroeconomic policies should focus on "promoting steady growth and continuing to reduce vulnerabilities."

Deficit crunching

The IMF has been critical in the past of the Conservative-led U.K. government's insistence on austerity measures but the government appears reluctant to change course. Chancellor George Osborne is aiming for a budget surplus by 2020 but he has a long way to go to balance the books.

In May, the Office for National Statistics revised up its initial estimate of last year's budget deficit by £2 billion to £76 billion ($108 billion), "largely reflecting weaker-than-expected income tax revenue from bonus payments," it said, showing that Osborne had borrowed more than he had intended.

Public sector debt in April 2016 equaled £1.6 trillion, equivalent to 83.3 percent of gross domestic product .

Despite the relatively high level of debt, the U.K. economy has performed relatively well in recent years with economic growth consistently near the top among major advanced economies and the employment rate at a record high. Data released Wednesday by the ONS showed that the unemployment rate fell to 5 percent in the three months to April, its lowest rate for 11 years.

Yet the economy has slowed in recent months amid concerns over the referendum and strong support for a "Leave" vote. The economic uncertainty that a potential Brexit could bring has rattled financial markets and sterling – which hit a two-month low against the dollar at the start of the week.

Until the referendum result is known one way or another, it's hard to tell how the economy will fare but the IMF praised the U.K.'s "substantial fiscal consolidation efforts made to date" but warned the authorities to "remain vigilant to the challenges ahead and to continue their policy efforts to promote growth and further boost resilience."

The IMF also offered advice on what to do on either a "Leave" or "Remain" vote:

"In the event of a vote to leave, Directors recommended that policies be geared toward supporting stability and reducing uncertainty. In the event of a vote to remain in the EU, Directors concurred that macroeconomic policies should focus on promoting steady growth and continuing to reduce vulnerabilities."

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