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Darker growth outlook pushes UK austerity plan off track

Commuters cross the Millennium Bridge during a rainy morning, towards the financial district the City of London November 27, 2012. REUTERS/S
Commuters cross the Millennium Bridge during a rainy morning, towards the financial district the City of London November 27, 2012. REUTERS/S

By David Milliken and Peter Griffiths

LONDON (Reuters) - Britain will endure more austerity and miss a key debt-cutting goal as the economy looks set to grow far slower than previously thought, the government said, in a bleak outlook that could hurt Prime Minister David Cameron's re-election chances.

Finance minister George Osborne said welfare payments will be squeezed and tax rises and spending cuts will drag on for an extra year until 2018, as tight lending and weakness in the global economy hold back Britain's recovery.

In a half-yearly budget update on Wednesday, Osborne said weaker-than-expected growth meant he would be a year late in meeting a self-imposed target of seeing debt fall as a share of Britain's national income by the 2015/16 tax year.

Missing that goal is an embarrassment for Osborne, who has staked his reputation on wiping out Britain's deficit and cutting public debt.

It also raises questions about the safety of Britain's coveted triple-A credit rating, with ratings agency Fitch saying it damaged the country's credibility.

The opposition Labour Party - which leads Cameron's Conservatives by around 10 points in the polls, 2-1/2 years before a 2015 election - said the austerity drive had failed and was damaging Britain's recovery.

But Osborne said he would not abandon the government's flagship recovery plans after the financial crisis caused the "largest shock to our economy since World War Two".

"Britain is on the right track. Turning back now would be a disaster," Osborne told parliament to roars of disapproval from opposition politicians.

The economy was forecast to grow by 1.2 percent in 2013, down from the 2 percent seen in March, Osborne said, citing figures from the independent Office for Budget Responsibility.

The government's fiscal watchdog expected the economy to shrink by 0.1 percent this year, compared to a prediction of 0.8 growth in March, and grow by 2 percent in 2014, compared to the 2.7 percent previously forecast.

"We suspect the risks to the growth forecasts are slanted to the downside, particularly from 2014 onwards, and that this poses an appreciable risk to the government's new fiscal targets," said Howard Archer, economist at IHS Global Insight.

"This could make life difficult and complicated for the government just ahead of the general election."

Although Wednesday's OBR forecasts showed Osborne was set to miss his debt reduction goals, there was less slippage on narrowing the budget deficit than many economists had expected.

He is on track to meet his primary goal of bringing Britain's structural current budget into balance in the 2016/17 tax year - defying expectations it would be pushed back a year.

The government made dealing with Britain's budget deficit - which hit a record 11.2 percent of GDP before the 2010 election - its biggest priority when it came to power.

Borrowing this year is forecast to total 108.5 billion pounds ($175 billion), equivalent to 6.9 percent of GDP, less than forecast in March.

Osborne said Britain's deficit would fall every year until the next election, adding: "The deficit is still far too high for comfort. We cannot relax our efforts."

LABOUR ON ATTACK

Labour accused Osborne of stubbornly sticking to a failed austerity plan that has choked growth, sapped demand and eroded much-needed tax revenues.

"Today after 2-1/2 years we can see, and people can feel in the country, the true scale of this government's economic failure," Labour finance spokesman Ed Balls told parliament.

Balls asked how the euro zone could be such a drag on the UK's recovery, given that the currency area had grown faster than Britain since the financial crisis.

"It is simply reckless and deeply irresponsible of this Chancellor to plough on with a fiscal plan we all know is failing on the terms he set," he said.

The government's watchdog said more than 300,000 extra public sector jobs would be lost by 2018 because of further spending cuts in 2017-18, taking total public sector jobs shed under the austerity program to 1.1 million. The Trades Union Congress said Osborne had offered "pain without purpose".

Cameron and Osborne have had a bruising year marred by weak growth, criticism of his austerity measures and an unpopular budget in March that led to a series of policy U-turns.

Osborne says he had no choice but to deal with a record deficit left by the last Labour government, which was voted out in 2010. As a result, he said investors still flocked to the British government bond market, keeping borrowing costs at record lows.

Nonetheless, Britain could be in danger of losing its prized triple-A credit rating before long.

Fitch Ratings said it would conduct a full review of its British rating after Osborne's 2013 Budget, expected around March, but added that Wednesday's news was not promising.

"Missing the target weakens the credibility of the UK's fiscal framework, which is one of the factors supporting the rating," it said.

Moody's said it would take Osborne's statement into account "in our ongoing analysis of the UK's triple-A rating".

In a raft of announcements that are fiscally neutral overall, Osborne said he would consult on new tax incentives for the shale gas industry, extend a high-speed rail line into northwest England and launch a new 1.5 billion pound finance facility to support UK exports.

Under pressure to do more to restore growth, he said he would cut the main rate of corporation tax by a further 1 percent. It will stand at 21 percent from April 2014.

The Confederation of British Industry welcomed news of around 5 billion pounds for infrastructure projects such as schools, trains and roads.

Banks will not benefit, however, as a levy on their balance sheets will rise to 0.130 percent to offset any benefit. And unemployment benefit will only rise by 1 percent a year for the next three years, rather than the normal inflation-linked rise.

($1 = 0.6214 British pounds)

(Additional reporting by Matt Falloon, Mohammed Abbas, Tim Castle, Peter Schwartzstein, Kate Holton, Michael Holden, Estelle Shirbon and Jonathan Cable. Editing by Guy Faulconbridge and Mike Peacock)

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