The International Monetary Fund has urged Britain to “stay the course” on reducing government borrowing, as bond market concerns grow over a potential Labour leadership challenge. In its annual health check on the UK economy, the Washington-based fund stressed the importance of continuing to cut the budget deficit “given market pressures and elevated implementation risks”.
IMF Praises Chancellor’s Approach
The IMF praised Chancellor Rachel Reeves for striking “a good balance between deficit reduction and growth-friendly spending” while upgrading its growth forecasts for 2026. After warning last month that Britain would suffer the heaviest economic blow from the Iran war, the IMF raised its growth forecast from 0.8% to 1%, citing “strong prewar momentum” and a robust first-quarter performance.
Reeves welcomed the upgrade, stating it showed the government had the “right economic plan”. In a thinly veiled rebuke to Labour MPs considering toppling Prime Minister Keir Starmer, she said: “Putting our stability at risk when signs of progress are emerging would leave families and businesses worse off.”
Bond Market Jitters Over Leadership Challenge
The IMF intervention comes amid a sharp rise in government borrowing costs worldwide due to the Iran war’s economic fallout. Investors also fear that a Labour leadership challenge could topple Starmer and lead to a successor increasing borrowing levels. Attention has focused on Greater Manchester Mayor Andy Burnham, the favourite to replace Starmer should he win a byelection to return to parliament. Burnham previously said Britain was too “in hock to the bond markets”, though he has since softened his stance, committing to current fiscal rules and debt reduction. However, he has called for borrowing to fund defence and nationalise utilities such as water and energy.
The yield on 30-year UK government bonds (gilts) reached 5.8% last week, the highest since 1998, before easing after a challenge failed to materialise immediately.
IMF Warns of Limited Fiscal Space
In its Article IV health check, the IMF warned that risks to the British economy are tilted to the downside, and that “domestic uncertainty could also add to the already volatile global environment”. The fund noted that tough “economic realities” hem in the government, limiting capacity for radical policy shifts.
Luc Eyraud, IMF mission chief to the UK, said: “Today’s policymaking is constrained by a more volatile external environment… a rising public interest bill, and the longstanding challenge of weak productivity growth. These structural realities define the limits of policy choices.”
With Britons facing the prospect of a sixth prime minister in seven years, Eyraud said the economy could benefit from stability and implementation of current policies. “In a more shock-prone world, there is a premium on policy predictability and on measures that strengthen confidence and resilience,” he added.
Rising borrowing costs are expected to add to the government’s debt servicing, already costing £100bn a year – about £1 of every £10 spent by the Treasury. Eyraud warned the government has “limited fiscal space” to respond to the Iran war’s economic shock, which he said would stoke inflation and drag down activity later this year.
As Reeves prepares to unveil further cost-of-living support measures on Thursday, the IMF urged that any interventions be “targeted, temporary and affordable” to avoid testing market confidence. The chancellor is reportedly set to scrap a 5p increase in fuel duty from September, a £2.4bn blanket measure rather than targeted support for low-income households.
