The International Monetary Fund has called on the government to prepare a “contingency plan” should the UK economy dip back into a prolonged recession or accelerate more quickly than expected.
In its annual survey of the UK, the IMF described the coalition’s fiscal plans as necessary and desirable, pointing to the need to act quickly to cut the deficit and bring about most of
the consolidation through spending cuts.
“A strong and credible multi-year plan to reduce the deficit greatly reduces the risk of a costly loss of confidence in the public finances,” said Ajai Chopra, mission chief for the IMF in the UK. He added that the cuts created space to cope with shocks.
The IMF thinks the benefits from cutting early outweigh the costs in terms of slightly weaker short-term growth.
Mr Chopra says front-loading cuts next year will act as an insurance policy against an adverse market reaction, and only cost about 0.3 percentage points in year-on-year growth.
IMF directors said they “generally supported the government’s front-loaded fiscal consolidation”, although this contradicted recent comments from Olivier Blanchard, its chief economist, that “a front-loaded adjustment . . . could destabilise the recovery”. But the mission added that “the uncertainty surrounding the current cyclical outlook puts a premium
on contingency planning. Thus, the authorities need to be prepared to tackle
surprises on either side of their central forecast.”
Mr Chopra said there were risks that growth and inflation could either be stronger or weaker than expected.
If the economy stutters badly, the IMF said the response might include additional monetary easing and allowing the so-called automatic stabilisers – cyclically higher benefits payments and lower tax revenues – to kick in, but that fiscal policy action should not be ruled out.
Mr Chopra emphasised that the “threshold for any additional discretionary stimulus is fairly high”.
The IMF’s central forecast is for growth of 2 per cent next year and accelerating thereafter, with little expectation of recession. However, the IMF thinks that in “the unexpected case of a significant and prolonged new downturn”, the pace of consolidation could be changed, possibly by bringing in tax cuts.
The IMF’s view on how to boost the economy should the recovery go seriously awry is likely to boost calls for the government to create a “Plan B” to supplement its main plan for cuts.
George Osborne, the chancellor, has repeatedly denied that the government needs an alternative plan to the cuts.
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