British economy picks up, but deficit must be tackled: OECD

26th May 2010, Comments 0 comments

Britain's economic recovery is gaining traction, helped by a pick-up in exports, but the country's massive public deficit remains a problem which must be tackled, the OECD said on Wednesday.

"A weak fiscal position and the risk of significant increases in bond yields makes further fiscal consolidation essential," the Paris-based group of developed economies warned in its latest Economic Outlook report.

Britain, like many countries, has spent heavily to keep its economy on track during the global slump and committed hundreds of billions of pounds (dollars) to bailout a series of failing banks.

This, together with previous overspending, resulted in a massive blow-out in the public deficit to a record 11.1 percent of gross domestic product for the fiscal year to March 2010, according to British figures.

The OECD warned the public deficit would likely continue above 10 percent for 2010-2011, while total national debt was put at 86 percent for next year.

European rules set limits of three percent and 60 percent for the two measures but Britain, an EU member but not part of the eurozone, is only one of many countries to have breached these levels during the crisis.

At the same time as the government has borrowed more, it has had to pay higher rates of interest to investors, with the yield or return on British government bonds rising, adding to the cost of debt.

The economy endured a record-length recession, contracting for six quarters through to the last three months of 2009 when it inched ahead 0.1 percent.

Growth picked up to 0.3 percent in the first quarter of this year as a weaker pound helped exports but there are concerns that any overly drastic spending cuts could jeopardise the gains and tip back into recession.

The OECD said the "fragile state of the economy should be weighed against the need to maintain (policy) credibility when deciding the initial pace of consolidation but a concrete and far-reaching consolidation plan needs to be announced upfront."

Earlier this week, Britain's new coalition government announced 6.25 billion pounds (8.9 billion dollars, 7.2 billion euros) of initial spending cuts and promised more tough measures to come in a June budget.

"This is only the first step on what will be a long road to restoring good management of our public finances," the government's Chief Secretary to the Treasury David Laws said.

"Even tougher decisions undoubtedly await us in the budget this year and in the autumn spending review if we are to restore responsibility after the years of (the previous government's) extravagance and mismanagement of our public finances."

The OECD said that after the "deepest recession since the 1930s, the economy started to grow in the fourth quarter of 2009 on the back of positive contributions from inventory adjustment, recovering exports and growing household and government consumption."

The banking sector as a whole continued to recover from the global financial crisis but with the banks focused on bolstering their capital base, credit for small firms and households "remains constrained."

Unemployment stabilised in mid-2009 and continues to improve, the Organisation for Economic Co-operation and Development said, while noting that inflation had spiked to more than three percent.

Against this backdrop, the OECD recommended that Britain should begin to tighten monetary policy by removing stimulus and normalising current very low interest rates in the second half of 2010.

Overall, the economy should grow 1.3 percent this year and 2.5 percent in 2011 after shrinking 4.9 percent in 2009.

The OECD said "substantial risks" surrounded its projections, noting that the authorities might have to tighten policy faster than expected if the fiscal position and inflation turn out to be worse than projected.

© 2010 AFP

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