Brown facing £11bn black hole

GORDON Brown must raise taxes or cut public spending to fill the massive black hole in Government finances, influential economists have warned.

The Organisation of Economic Co-operation and Development also said interest rates would have to rise further to curb the housing boom.

This damaging blow to the Chancellor's reputation for economic prudence came a week after he ruled out further tax increases ahead of the next General Election and two weeks before his Pre-Budget report, in which he is widely expected to admit he got his sums wrong.

Brown's ambitious spending plans have left him with a massive cash shortfall, which some economists have put at £10bn for this year alone.

To balance the books, the OECD said in a report, he must make cuts in spending on schools, healthcare and transport - a move likely to prove unacceptable among Labour MPs - or impose huge tax rises.

The OECD said the public sector deficit had widened considerably and warned it 'may call for a slowdown in spending or a rise in taxes'.

Such a move might be necessary to avoid a 'destabilising adjustment later on' which could damage the economy.

Brown's spending plans have been undermined by falling tax revenue and unexpectedly slow growth in the economy.

The Institute for Fiscal Studies has already warned he could be forced to raise taxes by £11bn - the equivalent of 3p on basic rate income tax - to fill the gap.

The OECD's report on the outlook for the world economy also dealt a damaging blow to Tony Blair's euro ambitions.

It predicted Britons would be borrowing 3.2% of national wealth in 2005. This would put the Government in breach of a key condition of entry to the single currency, which specifies that applicants are not borrowing more than 3% of GDP.

The OECD predicted economic growth of 1.9% this year - lower than the Chancellor's forecast - but raised its predictions for future years. It forecast 2.75% growth in 2004, still a long way short of Brown's forecast, and 3%in 2005.

According to the OECD, 'the UK economy continues to exhibit greater resilience than most other OECD countries'.

It went on to warn, however, that the 'major risk' to that outlook comes from the possibility of a house price crash which would lead to a sharp drop in consumer spending.

If prices continue to rise at around 15% a year, said the report, a sudden fall in prices could ensue. Interest rates must therefore continue to rise gradually to curb price rises and reduce the risk of a crash.

Earlier this month, the Bank of England raised rates for the first time in four years, by 0.25 of a percentage point to 3.75%. Economists are expecting further rises in the coming months with rates hitting 5% by the end of next year.

The Treasury defended the Chancellor's handling of the economy, insisting: 'We will continue to meet our fiscal rules.'

A spokesman added: 'Our spending plans are fully affordable and it is clear from the OECD report that the Government's overall record on stability, growth, inflation, jobs and debt is outstanding compared with other major economies and with the UK's past economic record.'