The International Monetary Fund has urged Britain to “stay the course” to cut government borrowing amid growing bond market concerns over a Labour leadership challenge.
As Keir Starmer battles to cling on to power, the Washington-based fund said it was important to continue reducing the budget deficit “given market pressures and elevated implementation risks”.
In its annual health check on the UK economy, the IMF praised the chancellor, Rachel Reeves, for striking “a good balance between deficit reduction and growth-friendly spending” as it upgraded its growth forecasts for 2026.
After sounding the alarm last month that Britain would suffer the heaviest economic blow from the Iran war, it increased its forecasts for growth of 0.8% to 1% to reflect the UK’s “strong prewar momentum” and a robust performance in the first quarter of the year.
Reeves said the upgrade showed the government had the “right economic plan” after official figures released last week showed the economy grew at a stronger rate than first anticipated at the start of the year.
In a thinly veiled rebuke to Labour MPs considering toppling Starmer, she said: “Putting our stability at risk when signs of progress are emerging would leave families and businesses worse off.”
The IMF intervention comes amid a sharp rise in government borrowing costs worldwide amid the mounting economic fallout from the Iran war. Investors also fret that a Labour leadership challenge could topple Starmer and lead to a successor increasing borrowing levels.
Investors have highlighted comments by Andy Burnham, the favourite to replace Starmer should he win a byelection to return to parliament, that Britain was too “in hock to the bond markets”.
The Greater Manchester mayor has since softened his stance, suggesting at the weekend he was committed to the government’s current fiscal rules and reducing the UK’s debt levels. However, he has also called for a more radical policy stance, including borrowing to fund defence and the nationalisation of leading utilities including water and energy.
Against a volatile backdrop in global markets, the yield – in effect the interest rate – on UK government bonds, or gilts, rose on Monday before falling back.
The yield on 30-year UK government bonds, or gilts, reached 5.8% last week, the highest level since 1998, before slipping back after a challenge failed to immediately materialise.
In its annual “article IV” health check, the IMF warned the risks to the British economy were tilted to the downside and the risk that “domestic uncertainty could also add to the already volatile global environment”.
Although stopping short of highlighting the pressure on Starmer, the fund said that Britain was hemmed in by tough “economic realities” that would limit the government’s capacity for a radical shift.
Luc Eyraud, the IMF mission chief to the UK, said: “Today’s policymaking is constrained by a more volatile external environment with more frequent and overlapping shocks; a rising public interest bill in part reflecting market concerns with countries’ elevated debt, and the longstanding challenge of weak productivity growth.
“These structural realities define the limits of policy choices and must be fully recognised in designing future policies.”
With Britons contemplating the prospect of a sixth prime minister in seven years, Eyraud said the economy could benefit from a period of stability and the implementation of the government’s current policies.
“In a more shock-prone world, there is a premium on policy predictability and on measures that strengthen confidence and resilience,” he said.
Britain’s rising borrowing costs are expected to add to the government’s debt servicing costs, adding to an already £100bn-a-year interest bill – a sum representing about £1 out of every £10 spent by the Treasury.
Eyraud said that as a consequence the government had “limited fiscal space” to respond to the economic shock from the Iran war, which he warned would stoke inflation and drag down activity later this year.
With Reeves preparing to unveil further cost-of-living support measures on Thursday, the IMF warned any interventions should be “targeted, temporary and affordable” to avoid testing financial market confidence.
It comes with the chancellor reportedly poised to announce plans to scrap a 5p increase in fuel duty from September – a measure costing £2.4bn that would have a blanket effect, rather than providing targeted support to the lowest-income households.
