Britain’s economy is set to keep shrinking well into next year, even after all or most of its leading competitors have begun to enjoy renewed growth, the International Monetary Fund will warn this week.

In a severe blow to Gordon Brown’s hopes for an economic revival to take hold by Christmas, the IMF will predict that the UK economy will shrink in 2010 by a further 0.2 per cent.

It now expects that to come on the heels of a brutal 3.8 per cent contraction this year that would be the sharpest since 1944 — and much worse than the 2.8 per cent that the fund forecast only in January.

The new, even harsher forecast comes ahead of official unemployment figures today that are set to show that numbers out of work soared above 2 million during January.

Mervyn King, the Governor of the Bank of England, last night warned of the danger of a return to an era of mass joblessness.

Speaking to bankers at the Mansion House in London, he highlighted the “extraordinarily sudden, severe, and simultaneous downturn of activity and trade in every corner of the world economy” since last autumn.

“Most of us have come from the generation that grew up believing that mass unemployment and world recession were things of the past, relevant to the history books but not the textbooks ... That assumption is under threat,” he said.

The leaked IMF projections, outlined by a top adviser to Dominique Strauss-Kahn, the IMF’s managing director, will be greeted with consternation in Number 10 and the Treasury.

Government alarm will be heightened as the leak indicated that Britain is likely to be shown as the only leading economy not tipped to stage a recovery from recession next year.

The IMF is expected to project that while Britain’s GDP <NO1>not fullout pls<NO>will keep falling over 2010 as a whole, the US economy will grow by 0.2 per cent, the 16-nation eurozone will eke out modest gains of 0.1 per cent, and the Group of Seven (G7) leading industrial economies will, as a whole, also grow by 0.2 per cent. The leaked forecast showed that Japan’s economy expected to stagnate during next year.

The scale of the toll from the global recession was underlined by the leaked details of the fund’s forecast, which officials in Washington said are set be further amended before release.

The updated projections show that the IMF now expects the world economy to suffer an outright contraction of 0.6 per cent this year, making this the bleakest since the Second World War. Britain is set to bear much of the brunt, with its economy now tipped to shrink by 3.8 per cent over 2009. That compares with predicted contractions of 2.6 per cent in the United States, 3.2 per cent in the eurozone, 5.0 per cent in Japan, and 3.2 per cent for the G7.

“This is a true global crisis, impacting all parts of the world,” Teresa Ter-Minassian, Mr Strauss-Kahn’s adviser, who outlined the new forecasts, said.

Mr King insisted that the Bank had taken drastic action to counter the impact of the crisis. “In its entire history, the Bank has never acted so swiftly or extensively in response to an economic downturn,” he said.

But he called for the Group of 20 key economies to agree decisive new measures at their London summit next month. He warned of a danger that, without collective commitments, countries could fail to factor in big gains from joint action, and so adopt an “excessively cautious approach”.

Mr King said that in the build-up to the present crisis, all forms of regulation, both light-touch and heavy-handed, had failed. Any overhaul of regulation faced the problem that “it is unlikely that there is a simple answer”. “We should not expect too much of regulation,” he argued.

The Governor said a new regime should “aim to be simple and robust” and avoid overly complex rules that would leave those in charge “lost in a morass or unnecessary detail”.

“We need to build into the system some simple and robust impediments to excessive risk-taking ...” he said.

Condemning a huge build-up of leverage in British banks before the crisis that saw them lend more and more against ever less capital, Mr King backed expected moves for banks to be forced to build-up a safety margin of capital in good times to cushion them in tougher periods.

Enormous risks had been allowed to pile up in banks before the present crisis, the Governor said. He blamed this on a “massive increase in complexity” of financial products, and skewed incentives that had encouraged a lax attitude to the dangers.

“Banks felt that they had to keep on dancing while the music was playing,” he noted.

In future, banks should be forced “to bear the true cost of the risks they take”, he added.

Explore Economics

• Pre-Budget Report 2009

• Budget 2009

• World Economic Forum

• The Times MPC

Times Recommends

• Lies and cover-up at MG Rover exposed by report
• High oil prices push manufacturing costs up
• Primark founder steps down as chief executive