Britain risks permanent damage to its economy if London doesn't adopt fiscal stimulus measures to reverse the nation's recession, the International Monetary Fund (IMF) warned Thursday, as it pressed for a reduction in the country's deficits to jumpstart its ailing economy.
The IMF's annual report on the British economy underlined its contraction, which began in the fourth quarter of last year and continued into the first quarter of this year, with official data showing that retail sales grew only by 0.1 percent in June from the previous month -- much below the market consensus of 0.6 percent. Unemployment, hovering at 8.1 percent, remains high.
Earlier this week, the IMF slashed its forecasts for the U.K.'s GDP growth this year to 0.2 percent from its previous estimate of 0.8 percent. The country's growth forecast for the next year was revised downward to 1.4 percent from 2 percent.
The IMF annual report did not consider the Bank of England's move to pump an additional £50 billion ($78 billion) into its £375 billion monetary easing program. Moreover, it did not mention a concrete figure for the amount of stimulus that would be required eventually.
In its annual report on the country, the IMF indicated that the Bank of England might need to reduce its base interest rate to less than 0.5 percent, which is the lowest it has been since March 2009.
In addition to rising unemployment and stringent fiscal austerity measures imposed by the David Cameron government, the U.K. has been hit with dwindling exports to Europe and the U.S. The slump in export markets exacerbates the government's deficits and calls for speedier measures to strengthen the country's fiscal health, Ajai Chopra, deputy director of the IMF's European department told British residents in a video-taped interview.
Falling yields on U.K. government bonds are making it difficult for the government to come forward with a concrete fiscal reduction plan, according to Samuel Tombs, an economist at Capital Economics.
In an interview from London, he emphasized that declining bond yields had drastically reduced the market risk premium -- the difference between a zero-risk rate of return and expected returns on bond portfolios -- weakening U.K. bond markets. Markets worry that this (the low bond yields) could ease the pace of fiscal consolidation further in the next year or so, Tombs said.
However, the rise of Asian economies presents a tremendous opportunity for U.K. exports. The good news is that British exports to emerging markets are beginning to grow, economists say.
Because of instabilities in the euro zone, exports to emerging nations will continue to grow over the next few years, Tombs said. He suggested that the country should shift its target export markets from euro nations to other countries, adding that such a move would bridge government deficits over the medium and long term, as the government would get more revenues from taxes that exporters would pay on their profits.