US fiscal deficits could have a serious impact on US and global interest rates and economic growth, the International Monetary Fund (IMF) and the Organisation for Economic Co-operation and Development (OECD) said yesterday.

A chapter from the IMF's World Economic Outlook, to be released in full next week, says that US fiscal and current account imbalances must be rebalanced and that an orderly rebalancing of global economic imbalances requires fiscal stabilisation in the US as well as efforts to promote demand growth abroad.

The IMF expresses concern about the Bush administration's plans to cut the deficit in half by 2009, relative to the 2004 baseline, pointing to "a series of somewhat optimistic assumptions about government operations".

These include no cost to US taxpayers from peacekeeping operations in Iraq beyond 2004, a strict containment of spending other than on defence and homeland security, and the assumption that tax revenues will jump and that there will be no reform of the Alternative Minimum Tax.

The IMF points to estimates by the US Congressional Budget Office that suggest the US deficit will remain largely unchanged over the next decade.

The IMF and the OECD, in a separate report released yesterday, call for more stringent efforts to reduce the US fiscal deficit in order to avoid deleterious effects on interest rates and crowding out private investment.

"By far the top priority is to confront the current and projected federal budget deficits," the OECD said, warning that if budget deficits were not reduced, "interest rates may be higher, ultimately implying slower growth in economic potential".

The 7 per cent deterioration in the ratio of the US fiscal deficit relative to GDP since 2000 is the largest deterioration since the Second World War and is equal to about 6 per cent of world gross savings.

The IMF said current low interest rates reflected low demand from US businesses for external credit, but that a situation in which companies compete with the government for funds would push up both US and global interest rates and crowd out investment.

"The sooner it is brought under control the better it will be for the world," said Mr Raghuram Rajan, the IMF's chief economist. "Strong US growth over the past year has made the positive contribution of expansionary policy clear but at this point we see the increasing need for consolidation."

The IMF's World Economic Outlook also addresses China's rise as a global economic power and concern that this will have a negative impact on other countries. The impact of China's rise on the global economy will be more limited and more beneficial than many observers suggest, according to the IMF.

China's emergence as the world's sixth-largest economy (at market prices) and fourth-largest trader has followed closely the pattern set by Japan and south-east Asian economies, the report says. China will benefit from greater integration in the world market, but rich countries benefit from cheaper imports. Developing countries that supply China with capital goods and commodity producing countries benefit from Chinese demand. - (Financial Times Service)