IMF raises UK growth forecast but warns on housing market

Gordon Brown received a pre-Budget boost yesterday as the International Monetary Fund upped its forecast for UK economic growth this year and described its performance as "impressive".

The Washington-based lender now thinks the economy will expand by 2.9 per cent rather than the 2.75 per cent it predicted in December. That is in line with the 2.75 per cent to 3.25 per cent forecast the Chancellor set out in his pre-Budget report and above the 2.5 per cent average among City economists. "The near and medium-term outlook is for continued strong and stable growth with a return of inflation to target," the report said.

The IMF flagged up a number of concerns, however. It said risks associated with soaring house prices "warrant vigilance" and warned that interest rates may need to rise further if wage settlements are not restrained. "Continuing to communicate the importance of wage restraint will help minimise the need for additional increases in interest rates. Depending on evolving prospects for wage growth, some further tightening of monetary policy may be required," it said.

The Chancellor is likely to seize on the IMF's warning as justification for the below-inflation public sector pay deals he unveiled last week. In the toughest settlement for a decade, public sector workers are to receive average pay increases of just 1.9 per cent. Updated analysis from pay experts, Incomes Data Services, yesterday confirmed that the average private sector pay award in the three months to January was 3.5 per cent, up from 3 per cent in the previous three months but still well below the Bank of England's 4.5 per cent "pain threshold".

On the public finances, the IMF was less glowing. It noted rapid growth in public spending from 2001 to 2004 had led to rising public debt and a sharp deterioration in the fiscal balance. It urged the Government to curb spending growth and make "disciplined choices" in the forthcoming Comprehensive Spending Review.

Elsewhere, there was conflicting news on the services sector, high-street spending picking up in February while the rest of the sector, excluding retailing, slowed. The British Retail Consortium said like-for-like sales were 3.3 per cent higher than a year ago, up from 3.1 per cent in January. Food sales enjoyed the strongest growth and home accessories continued to sell well.

Kevin Hawkins, BRC director general, described the figures as a "reasonably good set of results". "It would appear that the November and January rate increases have yet to work through to consumer spending," he said.

The latest snapshot of the rest of the services sector from the Chartered Institute of Purchasing and Supply, meanwhile, showed an unexpected slowdown in February as the rate of new business eased to its weakest for 15 months. The headline activity index dropped to 57.4 from 59.2 the previous month, where a reading above 50 indicates expansion. Analysts said the news reinforced expectations the Bank of England would leave interest rates at 5.25 per cent when its Monetary Policy Committee meets this week.