Government will spend more and raise less revenue than it has budgeted for, as Bermuda's economy suffers from the effects of a "severe contraction" in the US.

That is the view of the Economist Intelligence Unit (EIU), which says Government borrowing will exceed 10 percent of gross domestic product (GDP) in the current fiscal year.

The leading provider of global economic and business intelligence also believes the economic downturn will create further problems for Premier Ewart Brown, who has faced threats to his leadership from opponents inside his own Progressive Labour Party (PLP).

The EIU describes the Island's growth prospects as "poor" because of the massive ongoing upheavals in the financial services sector — the driving force behind the Island's economy — and growing competition from other low-tax jurisdictions.

It sees a contraction in the Island's economy this year, followed by a "mild recovery" in 2010. However, it says lower fuel and food prices and weak consumer demand will help to curb inflationary pressure.

In its latest economic review of the Island, the EIU looks at the link between politics and the economy.

"The Premier, Ewart Brown, survived a no-confidence vote on June 20, despite considerable disquiet over his leadership; his popularity is set to decline further as an economic downturn gathers pace," the EIU said.

"His PLP will focus on raising public spending and social benefit payments to counteract the effect of recession, but its ability to meet its macroeconomic and fiscal goals will be tested, as the EIU expects revenue to be lower and spending higher than the budget estimates. We expect that public borrowing will rise to 10 percent of GDP in 2009/10."

The EIU said the economic difficulties would not help Dr. Brown's survival chances.

"Given the likelihood of a prolonged period of weakness in Bermuda's economy, Mr. Brown will struggle to maintain authority over the Government and the party and to raise his poor level of support among voters (with an approval rating of around 30 percent)," the report states.

"The Premier's position has so far been bolstered by the reluctance of his most credible leadership rival, the Minister of Finance and Deputy Premier, Paula Cox, to challenge him. However, that may change if further political scandals concerning Mr. Brown emerge and a leadership challenge could be called at short notice if a majority of PLP members decide he has become an electoral liability."

Bermuda's success in signing a string of tax information exchange agreements had helped to bolster the relationship between the Island and its main trading partner, the US, the EIU added.

But the relationship with the US could deteriorate rapidly, should Congress vote in favour of tax reforms to stop the use of offshore domiciles by US companies. Much relied on the Island's progress with financial regulation.

"There is US government opposition to the use of offshore jurisdictions (such as Bermuda) by US companies to avoid paying domestic taxes on overseas earnings," the report said.

"Relations with the US will also continue to be governed by efforts to improve the supervision of financial services companies, in order to prevent the island being used for transactions connected to the illegal drug trade, money-laundering or terrorism."

The EIU says that success in attracting financial service providers to the Island is essential for economic growth, but economic conditions, growing competition and opposition to work permit time limits means success is far from certain. It also sees the departure of a string of companies to the likes of Switzerland and Ireland as significant.

"Company defections from Bermuda to other low-tax domiciles have gathered pace in 2009, undermining Bermuda's pre-eminence in the reinsurance industry at a time when investment in the international business sector is under pressure globally," the EIU states.