Britain risks stubbornly high inflation and interest rates, ministers fear in the wake of a warning from the International Monetary Fund (IMF) that the economy will shrink this year as global growth slows down.
Mortgage costs could remain elevated as the Government and Bank of England battle to bring inflation down, economists told i.
And Jeremy Hunt believes it will be necessary to ramp up efforts to reform the economy in response to “worrying signs” that prices are not coming down as quickly as hoped.
The UK’s GDP is set to shrink by 0.3 per cent this year and grow by just 1 per cent in 2024, according to the latest version of the IMF’s World Economic Outlook. Germany is the only other member of the G7 on course for a decline in GDP with even Russia predicted to see economic growth. But around the world forecasts have been downgraded with a “hard landing” now more likely, the fund said.
The UK’s poor performance this year is attributed to the rapid hikes in interest rates needed to bring inflation under control, and the country’s heavy dependence on natural gas for heating and electricity which has made Britain more vulnerable to global increases in the cost of fossil fuels.
Pierre-Oliver Gourinchas, the IMF’s chief economist, warned the global economy is “quite fragile” thanks to the risk of bank collapses. He said: “We are… entering a perilous phase during which economic growth remains low by historical standards and financial risks have risen, yet inflation has not yet decisively turned the corner.”
He added: “Inflation is much stickier than anticipated even a few months ago. While global inflation has declined, that reflects mostly the sharp reversal in energy and food prices. But core inflation, excluding the volatile energy and food components, has not yet peaked in many countries.”
Mr Hunt said: “Thanks to the steps we have taken, the OBR says the UK will avoid recession, and our IMF growth forecasts have been upgraded by more than any other G7 country. The IMF now say we are on the right track for economic growth. By sticking to the plan we will more than halve inflation this year, easing the pressure on everyone.”
But a source close to the Chancellor said the danger of high inflation meant the Government needed to reform labour markets so that more people return to work, reducing the risk of spiralling wages driving prices ever higher. The source said: “It’s the reason the Budget set out a pretty major package of interventions for labour market reforms. While international factors have eased somewhat there are some worrying signs in domestically generated core inflation that requires a bit of attention. We do not want to make the Bank of England’s job harder.”
Paul Johnson, director of the Institute for Fiscal Studies, told i there was little prospect of a cut to interest rates this year due to the need to bear down on inflation. “The base rate will fall, but the question is when, and it seems more likely that this will happen next year rather than this,” he said.
Sir Charlie Bean, formerly the Bank of England’s deputy governor, added: “The UK is likely to see a more stubborn underlying inflation picture than maybe in either Europe or US. As far as the Bank is concerned they won’t want to start lowering rates until they are clear inflation has been squeezed and all evidence is that underlying inflation still strong.” Mr Hunt’s economic reforms “are only going to bear fruit some way down the road”, he warned.
Labour’s shadow Chancellor Rachel Reeves said: “IMF projections that Britain will have a smaller economy by the end of the year, and the poorest growth in the G7 over this year and next, shows just how far we continue to lag behind on the global stage.
“This matters not just because 13 years of low growth under the Tories are weakening our economy, but because it’s why families are worse off, facing a Tory mortgage penalty and seeing living standards falling at their fastest rate since records began.”