Rachel Reeves should avoid big energy support package for households, IMF says

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The IMF has urged Rachel Reeves to resist pressure for blanket fiscal support for households and businesses hit by the Iran war energy shock, as it backed her efforts to curb Britain’s deficit in the face of restive global debt markets. 

Rodrigo Valdés, director of the IMF Fiscal Affairs Department, said the UK chancellor appeared “very aligned” with the fund’s recommendations that energy support should be targeted and temporary. 

“The bottom line is stay the course and implement,” Valdés told the FT.

Reeves has vowed that support for UK households will be aimed at helping the most vulnerable, as she seeks to avoid a repeat of the big state bailouts following Russia’s full-scale invasion of Ukraine in 2022.  

She has also promised to set out “principles for supporting businesses buffeted by world events”, while warning against unaffordable promises that could “deepen economic pain”.

Analysts now expect UK GDP to grow by only 0.6 per cent this year, according to the Treasury’s summary of independent forecasts published on Wednesday.

The figure is below the IMF’s forecast this week of 0.8 per cent growth and well below the 1.1 per cent projected by independent economists in February, before the war in the Middle East.

Concerns about the impact of the crisis on the UK’s fragile public finances have contributed to increasingly volatile trading in government debt markets since the first US and Israeli strikes on Iran on February 28. 

Reeves, who is in Washington this week for the IMF and World Bank’s spring meetings, is coming under pressure to increase defence spending.

In its Fiscal Monitor, published on Wednesday, the IMF projected a sharp decline in the UK’s fiscal deficit from 5.4 per cent last year to 1.6 per cent by 2031 as tax-raising measures in Reeves’ two Budgets since taking office help bolster revenue. 

But while the fund flagged a “notable improvement” in the UK deficit, investors have not given the UK Treasury much credit for its consolidation pledges. 

Since late February, government bond yields across advanced economies have risen noticeably. But as the IMF noted, increases in UK borrowing costs had been particularly sharp. This reflects in part higher inflation expectations and speculation that interest rates will have to rise. 

In a £15bn debt syndication on Tuesday, the UK paid a yield of slightly more than 4.91 per cent, the highest in any 10-year debt sale since 2008.

Asked why UK government bond prices had been so volatile following the war, Valdés said it was a question for financial markets.

The country’s “consolidation plan is good” and its declared strategy in the face of surging energy costs was “the appropriate response”, he said.

Any measures to alleviate the impact needed to be within the fiscal “guardrails” that Reeves has set out as she attempts to deliver a current budget surplus later in the parliament, Valdés added.

The UK’s public debt-to-GDP ratio is projected to peak at more than 104 per cent next year, according to the IMF, before easing back to 102.6 per cent by 2031. 

The figure is still far above the level of about 85 per cent that prevailed in 2019, before the pandemic and the Ukraine war energy shock drove up public debt around the world.