UK government to borrow record sums to revive economy

LONDON (Reuters) - Britain will spend billions of borrowed pounds to fund tax cuts and spending in the hope of preventing a recession spiraling into a slump but warned on Monday taxes would have to rise later to pay for the boost.

Finance minister Alistair Darling told parliament he would cut sales tax and extend help for small businesses, low earners and households in a package worth some 20 billion pounds -- over one percent of gross domestic product.

But he said tax cuts now would mean future rises, including an increase in income tax for high earners, and a surprise increase in payroll tax on employers and workers for all but the lowest earners -- deferred until after the next election.

"These are extraordinary, challenging times for the global economy. And they are having an impact on businesses and families right across the world," Darling said.

Britain's opposition Conservative Party called the plan, which it said would push national debt toward one trillion pounds, a "borrowing binge."

The stakes for the ruling Labour Party are high: Britain is sliding into recession, house prices are tumbling, unemployment rising and Labour lags the Conservatives in opinion polls.

Prime Minister Gordon Brown's chances of winning the next election, due by mid-2010, may depend on a short, shallow recession -- but a limited downturn is looking unlikely: the Treasury slashed its growth forecasts on Monday.

"The choice at the next election could not be clearer -- a record borrowing binge and a lifetime of tax rises under Labour or fiscal sanity and lower taxes that last under the Conservatives," Conservative spokesman George Osborne said.

BIG BILL

To pay for Britain's stimulus package, Darling said Britain's public borrowing would balloon to 118 billion pounds in the next financial year, about 8 percent of GDP and way above the 38 billion pounds he forecast in March.

Gilt issuance will rise to 146.4 billion pounds in 2008/9 from an initial 110 billion pound estimate.

Darling slashed his economic forecasts to 0.75 percent growth this year and to a contraction of between 0.75 percent and 1.25 percent next year. In March, he foresaw growth of about 2 percent this year and around 2.5 percent in 2009.

However, that is still more optimistic than many economists.

"We are massively concerned that it's a question of live now, pay later and we don't think the strength of the economy warrants it," said David Buik, analyst at BGC Partners.

Darling's fiscal boost is being matched, in some shape or form, across much of the world as the global economy sours.

The European Commission will present plans on Wednesday to boost the EU economy, and U.S. President-elect Barack Obama has laid the ground for a massive new U.S. stimulus package, combining middle-class tax cuts and infrastructure spending.

To persuade markets the government will balance the books once the economy improves, Darling announced plans for deferred tax rises and public spending curbs.

One measure included a new 45 percent income tax rate on individual earnings of over 150,000 pounds if Labour wins the next election, up from the current top rate of 40 percent.

The move will not be a major earner for the government but carries huge political symbolism, breaking a pledge that formed the backbone of Labour's revival in the 1990s not to raise taxes on high earners.

Darling also unveiled a planned rise in National Insurance contributions from 2011, which will raise 5.4 billion pounds a year for the Treasury and hit all but the lowest paid.

VAT sales tax will be cut to 15 percent -- the lowest level allowed by the European Union -- from 17.5 percent, boosting consumers' spending power before Christmas, although retailers doubted how much benefit that would bring.

"We have considerable doubt that the 2.5 percentage point reduction in the VAT rate will stimulate consumer spending as much as the Chancellor expects," said Miles Templeman, Director General of the Institute of Directors.

Companies' foreign dividends were exempted from tax in an effort to allay concerns that have led several big firm to shift their tax domicile to Ireland.