King warns of the 'long hard slog' to clear Britain's debt

Governor of Bank of England's attack on 'truly extraordinary' deficit fuels tension with Chancellor

The Governor of the Bank of England, Mervyn King, has warned that the nation faces a "long hard slog" to recovery, criticised the Government for running too high a level of borrowing as the nation entered the present crisis, and called on the Chancellor to produce a "credible statement" of how he plans to get the borrowing down.

It will take "an awfully long time" to get the public finance s back under control, the Governor said. Though he praised the Chancellor's "commendably honest" Budget, he wanted to see "slightly greater ambition" in Alistair Darling's efforts to cut borrowing, and he felt that the Chancellor had so far been "not clear enough". He described the budget deficit as "truly extraordinary".

Mr King said: "There will certainly need to be a plan for the lifetime of the next parliament, contingent on the state of the economy, to show how those deficits will be brought down to levels below those envisaged in the budget."

He added that a path needed to be plotted "to return to a sustainable position in the lifetime of the next parliament". He also revealed that he had not been consulted, nor even seen, a copy of the Government's White Paper on banking regulation, to be published next week.

Mr King's outspoken remarks, given in testimony to the Treasury Select Committee and close to breaking the convention that the Bank does not become embroiled in political arguments, came as the Organisation for Economic Co-Operation and Development said that the British Government's finances were sinking into the red faster than those of any other major industrial nation.

The OECD, which comprises the world's 30 most advanced economies, said that borrowing would reach 14 per cent of GDP during this fiscal year – around £200bn, against the Chancellor's figure of £174bn.

The OECD also downgraded its projection for British growth, forecasting that the British economy would shrink by 4.3 per cent this year, with unemployment set to approach the 10 per cent mark: "The financial crisis has severely impaired the supply of credit and house prices have fallen sharply, thus restraining business and household spending."

Next year the OECD sees only stagnation in the British economy, with output flat with a "weak and flat" worldwide return to growth. Echoing Mr King, the OECD called for "a concrete and comprehensive plan to ensure that debt is on a declining path once recovery takes hold".

However, ministers will be more pleased with the Bank's suggestion that the worst of the recession may be over, and the hints that it seems to be in no hurry to reverse its unpredicted easing of monetary policy. Mr King said that the economy should start to see "some sort of recovery" soon. His Deputy Governor for Monetary Policy, Charlie Bean, said that the economy may now be "around the trough".

Since last Autumn, the Bank Rate has been cut from 5 to 0.5 per cent, the lowest level in the Bank's 315-year history, and £96bn of cash has been injected into the economy since March through the Bank's policy of "quantitative easing" (colloquially called printing money). A further £30bn will be spent over the next few weeks. Mr King said that he hoped to see the recession ease as we come to the end of the "destocking phase", which saw shops and other businesses adjust to lower demand by selling out of stock rather than placing new orders at the factory level or further down the supply chain, which exaggerated the downturn. Mr King also suggested that the 20 per cent fall in the pound over the past two years and the bank's injections of cash into the economy will also help.

However there are doubts about the strength of recovery. Mr King repeated his fear that many small and medium size businesses "find it hard to obtain credit from the banking system" and suggested that the Government could, it if wished, use its majority shareholdings in two of the biggest banking groups, Lloyds and Royal Bank of Scotland, to order them to increase their lending. The OECD agreed: "The financial crisis has severely impaired the supply of credit... thus restraining business and household spending."

Despite its grave pessimism about the British economy, the OECD raised its forecast for global growth, which it believes will be as high as 2.3 per cent next year, having shrunk by 2.2 per cent in 2009. The OECD's Secretary General, Angel Gurria, said: "It looks like the worst scenario has been avoided. Even if the subsequent recovery may be slow, such an outcome is a major achievement of economic policy."

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