The basic rate of income tax will have to rise by between 8p and 10p in the pound if Britain's public finances are to return to balance in the timescale outlined by the Chancellor in his Budget, a leading think-tank says today.

The National Institute of Economic and Social Research (NIESR), in its latest quarterly outlook, says that, although Alistair Darling is right to assume that the UK economy will return to growth in the last three months of 2009, he is still being too optimistic about future growth rates.

The NIESR also forecasts that UK unemployment will not peak for another two years. It now expects the jobless total to hit 3.1million in 2011, lifting unemployment to 9.6percent.

It said that its projection relied on average earnings growing very slowly and that, without this adjustment, unemployment would be significantly higher.

The think-tank said that, in both 2011 and 2012, inflation would outstrip the rate at which wages grow. It expects that consumer spending in the UK will fall both this year and next year - but says that shoppers will return the economy to growth by the end of this year by bringing forward spending before VAT rates go back to 17.5 per cent next January.

Ray Barrell, a research fellow at the NIESR, said that the Chancellor was wrongly assuming that revenues from the housing and financial services sectors would quickly return to levels seen in the boom years - while the spending cuts and tax rises announced would not be enough to restore the government budget to balance by Mr Darling's target date of 2017-18.

He said that, without any cuts in government spending, basic-rate income tax would need to rise by between 8p and 10p - while if Britain's national debt was to be reduced to 40 per cent of GDP by 2023, to comply with the “Golden Rule” set by Gordon Brown when Chancellor, even bigger tax rises or spending cuts would be needed.

Mr Barrell was speaking as NIESR forecast that the UK economy will contract by 4.3 per cent this year but increase by 0.9 per cent next year.

However, NIESR's forecasts came amid three pieces of optimistic UK economic news: contraction in the construction industry slowed last month, food price inflation eased in April and the cost of lending dollars between banks fell to its lowest since records began in 1984, at 0.98625 per cent.

Three-month sterling Libor fell from 1.44563 per cent to 1.43563 per cent in the most recent fix last Friday.

This cheered sterling and London stock markets. The pound hit a four-month high against the dollar, rising to $1.5161 at one point.

The FTSE100, partly catching up on big overnight gains on Wall Street ahead of tomorrow's expected results of stress tests on US banks, rose 93.72 points to 4,336.94, a level last seen in mid-January.

UK food prices fell in April for the first time this year, with the annual rate of food price inflation falling to 7.9percent, from 9percent in March.

Britain's construction industry shrank at its slowest pace in seven months as the weak pound helped to support new orders, according to the latest survey of purchasing managers by CIPS/Markit.

NIESR said that, although the recession was not likely to last as long as the 1930s depression, there were “striking similarities” between now and then.

The think-tank forecast 0.5percent contraction in the global economy this year, its first annual decline since 1946.

Ben Bernanke, Chairman of the US Federal Reserve, said yesterday that America would pull out of its recession later this year, but warned that the return to growth would be sluggish, with months of job losses to come.

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