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Citigroup predicts fast UK deficit cut

Citigroup has predicted that the UK will be able to cut its deficit faster than either the last Budget or current consensus predicts.

The bank says the UK fiscal deficit will be £132bn in 2010/11, which is far below the £164bn consensus gauged by the Bank of England. It also expects the deficit to fall to about £90bn, or 5.7 per cent of GDP, by the next year, well below the consensus of £139bn.

Citigroup economist Michael Saunders says: “The road back to fiscal sustainability will be painful. But, it is achievable and – provided sterling and interest rates stay low, and the coalition stays intact – prospects of success seem much better than many expect.”

Saunders says along with a lower than predicted deficit last year, UK GDP is rising faster than expected. He says the current path of GDP will put it £12bn above forecasts in 2011, which he thinks is a indicator to suggest the UK economy is moving from recession better than consensus assumes.

Citigroup also thinks the new coalition Government has the “strong political will” to reduce the deficit. Saunders says: “The politics and economics of fiscal consolidation are relatively favourable at present. With the economy improving and the Monetary Policy Committee willing to keep rates low, risks that early fiscal tightening derails growth are shrinking. Conversely, the Euro Area sovereign debt crisis highlights risks that fiscal inaction might be very costly, by potentially destabilizing sterling and gilts.”

Saunders predicts that the upcoming Budget will implement an extra fiscal tightening of around £30bn, or 2 per cent of GDP, phased in over three to four years. He says this will be funded with a £10bn tax hike and £15bn of spending cuts. Saunders says this will be enough for the UK to keep hold of its AAA rating.

The annual budget deficit for 2010 reached £163.4bn or 11.6 per cent of GDP, the worst annual deficit since World War Two. In the last Budget, former Chancellor Alistair Darling said the deficit would be cut to 5.2 per cent of GDP in 2013-14.

Saunders says: “While the Euro Area sovereign debt crisis continues to rage, the path back to fiscal sustainability is opening up for the UK. We believe that the combination of underlying cyclical momentum plus early fiscal policy action will cut the fiscal deficit far faster than the consensus expects in coming years.”

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