IMF warns Jeremy Hunt against UK tax cuts as it flags £30bn funding gap

The UK government lacks scope for new tax cuts and will struggle to contain spending growth, the IMF has said, as it warned of a near £30bn gap in the public finances.

In its annual health check on the UK economy, the fund predicted that the UK will break its fiscal goals late in the decade due to more health spending and public investment.

The IMF said the government should seek to raise revenue via measures including reforms to VAT, capital gains and inheritance tax, as well as by charging for a wider range of public services.

“The government faces pressing service delivery and investment needs which, in [IMF] staff’s view, will be difficult to accommodate within the official medium-term spending plans,” the fund said in its yearly Article IV report on the UK. 

“Absent a major boost to potential growth, assuredly stabilising debt in the medium term will likely involve some tough choices,” it added.

The findings come at a sensitive time as chancellor Jeremy Hunt tries to find room for further reductions to taxes before the next general election.

The Washington-based IMF warned in January against new tax cuts due to the UK’s straitened budgetary circumstances, but Hunt went ahead anyway and lopped another 2p off national insurance in March.

In Tuesday’s report, the fund said that those national insurance reductions may help to boost the labour supply and were partly offset by other measures such as the ending of non-domicile tax status.

But it said the chancellor should not have lowered national insurance “in light of the medium-term fiscal challenge” facing the UK.

“Against the backdrop of these challenges, as a general principle, staff would advise against additional tax cuts, unless they are credibly growth-enhancing and appropriately offset by high-quality deficit-reducing measures,” it said.

The gloomy outlook will make for sobering reading in the Labour party, which has declined to reverse the national insurance reductions and intends to adopt tight departmental spending plans that have been dubbed “fiscal fiction” by the Resolution Foundation think-tank.

The IMF report cast doubt on official UK projections for day-to-day departmental spending to rise by 1 per cent a year in real terms in the coming years. It said they were not realistic because of demands on public services and “critical growth-enhancing investment needs [including for the green transition]”.

The fund said a 2 per cent pace of real-terms growth in departmental spending every year would be more realistic. But such a level of spending would help push the ratio of public debt to GDP to 97 per cent in 2028-29, well above the Office for Budget Responsibility’s 93 per cent projection. 

The report argued that the government will need to improve the primary budget balance, which excludes interest payments, by an average of 1 percentage point of GDP from 2025-26 — the equivalent of just under £30bn that year.

Despite the harsh fiscal outlook, the fund found that the UK is now approaching an economic “soft landing” after its mild technical recession in 2023, as it modestly lifted its prediction for 2024 GDP growth from 0.5 per cent to 0.7 per cent.

Hunt said the report confirmed that the UK economy has turned a corner.

“The IMF have upgraded our growth for this year and forecast we will grow faster than any other large European country over the next six years — so it is time to shake off some of the unjustified pessimism about our prospects,” he said. 

Inflation is projected to return “durably” to the Bank of England’s 2 per cent target in early 2025. This should pave the way for interest-rate cuts this year, the fund said, as it predicted cuts of 0.5 per cent to 0.75 per cent in 2024 and a percentage point reduction in 2025.