Brown 'must cut spending' to avoid breaking his rule

Gordon Brown must use next year's spending review to put the brakes on public expenditure to avoid breaking the "golden rule" that governs the public finances, an independent think-tank said today.

The Chancellor is in danger of breaching his rule that he must not borrow to fund day-to-day spending when averaged over the economic cycle, the National Institute of Economic and Social Research said.

It also said the Treasury would miss its bullish forecasts for economic growth both next year and in 2008 due to the oil price spike, rising interest rates and the appreciation of the pound.

Its warning came just a week after official figures showed the public finances had plunged to their largest deficit for a June since modern records began.

Its quarterly forecast showed the current budget posting a cumulative deficit of £20bn across the economic cycle that the Treasury says began in 1997 and is forecast to end in 2008.

However, it said the latest revision to GDP figures confirmed the NIESR's own assessment that the current economic cycle began in 2003.

As the surpluses were amassed in the early years of Labour's rule, thanks to tight cost control and the auction of 3G licences, that would leave the current budget with an even larger deficit.

The NIESR said it was forecasting a deficit of £45bn over the current, shorter, cycle, which would require the equivalent of an increase of 15p on the basic rate of income tax to rectify.

"On our projections, the current budget would not show a surplus in the medium term if the Government does not reduce the share of spending in the economy as it currently intends," its report said.

It reiterated its view that the Bank of England should raise rates next week.