The International Monetary Fund has urged Britain to “stay the course” on reducing government borrowing, amid growing bond market concerns over a potential Labour leadership challenge to Prime Minister Keir Starmer. In its annual health check on the UK economy, the Washington-based fund emphasized the importance of continuing to cut the budget deficit “given market pressures and elevated implementation risks.”
IMF Praises Reeves’s Fiscal Approach
The IMF praised Chancellor Rachel Reeves for striking “a good balance between deficit reduction and growth-friendly spending” as it upgraded its growth forecasts for 2026. After previously warning that Britain would suffer the heaviest economic blow from the Iran war, the fund raised its growth forecast from 0.8% to 1%, citing the UK’s “strong prewar momentum” and a robust performance in the first quarter of the year.
Reeves welcomed the upgrade, stating that it showed the government had the “right economic plan.” In a thinly veiled rebuke to Labour MPs considering toppling Starmer, she added: “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 economic fallout from the Iran war. Investors have also expressed concern that a Labour leadership challenge could topple Starmer and lead to a successor increasing borrowing levels. Comments by Greater Manchester Mayor Andy Burnham, the favourite to replace Starmer if he wins a byelection to return to parliament, have been highlighted. Burnham previously stated that Britain was too “in hock to the bond markets,” though he has since softened his stance, committing to the government’s current fiscal rules and debt reduction targets. However, he has also called for borrowing to fund defence and the nationalisation of utilities such as water and energy.
The yield on 30-year UK government bonds, or gilts, reached 5.8% last week—the highest level since 1998—before slipping back after a leadership challenge failed to materialise immediately.
IMF Warns of Limited Fiscal Space
In its annual “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 Britain is constrained by tough “economic realities,” including a volatile external environment, rising public interest bills, and weak productivity growth. These factors limit the government’s capacity for a radical policy shift.
Luc Eyraud, the IMF mission chief to the UK, said: “Today’s policymaking is constrained by a more volatile external environment with more frequent and overlapping shocks; a rising public interest bill in part reflecting market concerns with countries’ elevated debt, and the longstanding challenge of weak productivity growth. These structural realities define the limits of policy choices and must be fully recognised in designing future policies.”
With Britons facing the prospect of a sixth prime minister in seven years, Eyraud stressed that the economy could benefit from stability and the 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 said.
Rising Borrowing Costs Add Pressure
Britain’s rising borrowing costs are expected to increase the government’s debt servicing costs, adding to an already £100bn-a-year interest bill—a sum representing about £1 out of every £10 spent by the Treasury. Eyraud warned that the government has “limited fiscal space” to respond to the economic shock from the Iran war, 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 cautioned that any interventions should be “targeted, temporary and affordable” to avoid testing financial market confidence. This comes as the chancellor is reportedly poised to scrap a 5p increase in fuel duty from September, a measure costing £2.4bn that would provide blanket support rather than targeted aid for the lowest-income households.
