The International Monetary Fund (IMF) has cut its forecast for US economic growth and warned Washington and debt-ridden European countries that they are 'playing with fire' unless they take immediate steps to reduce their budget deficits.

The IMF, in its regular assessment of global economic prospects, said bigger threats to growth had emerged since its previous report in April, citing the euro zone debt crisis and signs of overheating in emerging market economies.

The Washington-based global lender forecast that US gross domestic product would grow a tepid 2.5 per cent this year and 2.7 per cent in 2012. In its forecast just two months ago, it had expected 2.8 per cent and 2.9 per cent growth, respectively.

With regard to the global economy overall, the IMF struck a measured tone, saying the slowdown of recent months should be 'temporary.'

It trimmed its forecast for global growth this year only slightly, to 4.3 per cent from 4.4 per cent, and maintained its estimate for robust Chinese growth of 9.6 per cent despite recent signs of a slowdown there.

Yet that relatively benign global outlook could quickly fall apart if politicians in the US and Europe do not start showing more leadership in addressing their countries' debt problems, the fund warned.

'You cannot afford to have a world economy where these important decisions are postponed, because you're really playing with fire,' said Jose Vinals, director of the IMF's monetary and capital markets department.

'We have now entered very clearly into a new phase of the (global) crisis, which is, I would say, the political phase of the crisis,' he said in an interview in Sao Paulo, where the updates to the IMF's World Economic Outlook and Global Financial Stability Report were published.

In the US, the political problems include a fight over raising the legal ceiling on the nation's debt. A first-ever US default would roil markets, and Fitch Ratings said even a 'technical' default would jeopardize the country's AAA rating.

The IMF said the outlook for the US budget deficit this year has improved somewhat due to higher-than-expected revenues. In a separate report, it forecast a deficit of 9.9 per cent of GDP -- better than the deficit of 10.8 per cent of GDP it foresaw in April, but still near historic highs.

Markets on the edge

The fund, which has endured its own political crisis due to the resignation of its chief, Dominique Strauss-Kahn, on sexual assault charges, said the global economy 'has gained ground' despite a slowdown it deemed 'not reassuring.'

It attributed the weakness to temporary disruptions such as the Japan earthquake, bad weather pressuring food crops and higher energy prices. Global growth should 'reaccelerate' during the second half of the year, the report said.

The fund's forecast for global growth next year remained unchanged at 4.5 per cent.

The IMF raised its growth view for the euro area in 2011 to 2.0 per cent from 1.6 per cent. For 2012, the IMF saw growth at 1.7 per cent, little changed from its previous 1.8 per cent.

Yet Europe also poses some of the biggest risks to the global economy, Vinals said.

'If you make a list of the countries in the world that have the biggest homework in restoring their public finances to a reasonable situation in terms of debt levels, you find four countries: Greece, Ireland, Japan and the US,' Vinals said.

Greece has edged closer to default as euro zone officials disagree on a planned second aid package for the indebted country.

With strikes and protests around the country, political turmoil has added to uncertainty, stoking fears that the government will not be able to tighten its belt enough to reduce crippling deficits.

Fears of contagion in the euro zone have driven global stock markets lower in recent sessions.

The fund raised its forecast for Germany, the powerhouse of the euro zone, to 3.2 per cent from 2.5 per cent, with growth moderating to 2 per cent in 2012.

Forecasts for large emerging markets remained stable or slipped. While China's GDP view stayed unchanged, the IMF lowered its Brazil outlook to 4.1 per cent from 4.5 per cent.

Those countries, along with Russia, India and South Africa, make up the fast-growing BRICS, a group of emerging economies whose brisk expansion has outstripped that of developed markets recently.

Robust economic growth and rising inflation have caused emerging economies to tighten monetary policy with higher interest rates and reserve requirements, even as many developed nations keep policy ultra-loose to try to boost anemic growth.

The IMF warned that many emerging markets still need more tightening. In China, for example, the high inflation rate means negative real interest rates.

Some emerging markets have been reluctant to tighten too far, fearful of derailing growth or attracting speculative investment flows that could push their currencies ever higher.-Reuters