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Cameron warns Britons to expect more budget cuts

By Guy Faulconbridge and Matt Falloon

BIRMINGHAM, England (Reuters) - Britain will have to keep cutting public spending to reduce the budget deficit, Prime Minister David Cameron said on Sunday, underlining the government's tough task of pulling the country out of recession while winning back waning public support.

Cameron cited the euro zone crisis in explaining the problems facing the British economy, comments which are likely to please the influential euroskeptic wing of his Conservatives as they gather for the party's annual conference.

"It is a very challenging situation, you only have to switch on your television set and look at what is happening in the euro zone. We have got many countries going into quite a deep recession, these are very difficult times," Cameron said.

An aide said the government was paving the way for the next phase of austerity rather than signaling bigger than planned measures, but economists say longer or deeper cuts look likely after a return to recession cast doubt over its deficit targets.

The next election in 2015 will be fought on the economy and how best to get the deficit, which peaked at 11 percent of the nation's annual economic output, under control. Cameron's Conservative-led coalition planned to all but erase the deficit by 2015 but has been forced to project two more years of cuts.

Underlying borrowing between April and August was a fifth higher than last year, suggesting that either bigger cuts or a further extension of austerity could be on the cards when the government updates its economic forecasts on December 5.

"We inherited a budget deficit at around 11 percent, it is down to 8 percent," Cameron told the BBC. Referring to this year, he added: "It is too early to say where they will end up."

Official figures in March predicted a fall to below 6 percent this year, a target which now looks uncertain.

Abandoning the austerity plan would prove politically disastrous for the Conservatives, who staked their 2010 election campaign on it.

"The economy is healing. But it's a longer and harder road that we have to travel down," finance minister George Osborne told the Mail on Sunday. "There will have to be further cuts."

COALITION TENSIONS

The Labour opposition has pulled ahead of the Conservatives due to public anger about the austerity drive, while support has dived for the junior coalition partner, the Liberal Democrats.

Pollsters say Cameron will struggle to win an outright majority in 2015 unless the economy bounces back and the austerity plan starts to bear fruit.

Labour - which holds a 10 percentage point poll lead - and the Lib Dems want the wealthy to make a bigger contribution to reducing government borrowing.

But the Conservatives dismissed the idea of a tax on the wealthy - such as on expensive homes - and called for more cuts in welfare spending, comments likely to create further tension in an already uneasy coalition.

In an effort to woo back middle class voters, Cameron also announced a freeze in a tax that pays for local services and a cap on rail fare increases.

"If we want to avoid cuts in things like hospitals and schools and the services that we all rely on, we have to look at things like the welfare budget," he said.

Beyond the economy, Cameron also faces problems in his center-right party, with some arguing he has not taken a tough enough line on the European Union and a few calling for a new leader, such as Boris Johnson, the Conservative London Mayor.

To pacify anti-EU Conservatives, Cameron threatened to use Britain's veto if the bloc tries to inflate its 2014-2020 budget. He suggested the EU should at some point split its budget into two - one for the euro zone and one for the countries outside the common currency, including Britain.

Cameron used the veto last year to keep Britain out of a European fiscal and economic pact aimed at resolving the euro zone debt crisis.

"People in Europe know I mean what I say. I sat round that table - 27 countries, 26 of them signing up to a treaty - and I said this is not in Britain's interest," he said.

"I don't care how much pressure you put on, I'm not signing, we are not having it. They know what I am capable of saying, no, and if I don't get a good deal I'll say no again."

Defense Minister Philip Hammond also raised sensitive economic relations with EU powers, saying his government would block a proposed $45 billion merger between Airbus maker EADS and British defense group BAE Systems if "red line" priorities were not met.

Tensions have spilled into the open in recent days as France, Britain and Germany jockey over the role of the state in what would be the world's largest aerospace group.

"It is not necessary to have no French or German government interest in the company. It is necessary to reduce that stake below the level at which it can control or direct the way the company acts," Hammond told BBC radio.

(Additional reporting by Tim Castle; Writing by David Stamp and Matt Falloon; Editing by Alison Williams)

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