Economists and business commentators are notorious over-users of the R-word because, frankly, it sells.

Yet a recession – two or more successive quarters of negative real growth – is unlikely in 2008.

Don't think for a moment though that Britain is out of the woods. The gyrations in the Stock Market over the last few days don't really tell us anything.

Potentially, a real crisis is coming home to roost thanks to the Government's mishandling of the public finances, combined with a looming crash in the housing market and a global economic slowdown.

All of these just might propel us to an inflationary run on sterling, a crash in the bond market and a public sector seasons long period of discontent from 2010.

The UK economy has been growing since the pound's ejection from the Exchange Rate Mechanism in 1992. No question, this is an exceptionally long time. We last came closest to a recession in 2001. That recession was at least partly avoided by Gordon Brown's increased public spending of accrued budgetary surpluses and for that he deserves some credit.

Fast forward to 2008, however, and we find ourselves in exactly the reverse position. Brown simply failed to turn off the public expenditure taps, so we have a budget deficit of 3.1 per cent of GDP – inexcusable after 15 years of growth. What this means is that there's just no money for a Keynesian expansion this time to stave off recession.

Just a few days ago, we found out from the Office for National Statistics, that net borrowing in the financial year to December was running at £43.6bn – a staggering £11bn increase on the year before.

As we're starting from such a bad set of public accounts, a recession on the scale of 1992 would be catastrophic to the UK, according to Professor David B. Smith of the University of Derby, because it would take us to an eye-watering fiscal deficit of 9.5 per cent.

Obviously, no one is forecasting a recession that bad. Growth estimates for 2008 range from 1-1.5 per cent, just under half that of 2007. Yet a recession in 2009 is more possible and absolutely no one is forecasting an improvement in government finances for many years to come.

That can only have a negative knock on effect on the value of sterling as foreign investors lose confidence in the UK economy. Already, the pound has lost a considerable amount of value against the euro and the dollar since the beginning of the year. You could add to this the UK's mountainous £1.3 trillion of personal debt, principally fuelled by a housing boom that is just about over. My fear is that negative equity is well on its way to many households up and down Britain.

So what could the Chancellor do?

An enlightened Chancellor needs to start thinking about preparing for the worst. This means some serious public sector reform that tackles the large structural deficits and allows the private sector to get bigger.

That would make sense because there is no recession in the non-oil private sector – it is growing strongly at an annualised 3.9 per cent in the third quarter of 2007.

And if a Keynesian expansion is off the cards this time, we should take a cure from the late Sir Keith Joseph who said in 1976: "Monetary contraction in a mixed economy strangles the private sector unless the state sector contracts with it and reduces its take from the national income."

So it's high time that the public sector – not the taxpayer – tightened its belt. This Chancellor may not consider a new privatisation programme but a future administration may have to. The BBC, Channel 4, the Met Office, the British Library, Railtrack, the Royal Mail and just maybe, Northern Rock could all be sold back into the private sector at a tremendous profit of tens of billions. A proviso should be put in place though that Sovereign Wealth Funds would not be allowed a majority shareholding.

The Chancellor could also instigate the wholesale commitment of all government web pages and publications to Google advertising. This is an easy and painless way of raising tax and the funds received should be ring-fenced to pay off the national debt in perpetuity.

The main goal in public sector reform has to be deflation in the cost of delivered public goods. For too long, we have accepted rising costs –usually salaries – without productivity gains.

To that, our politicians must all be ready to say; never, never again.

Britain's economic situation is bad, but it is not yet dire. The failure of Gordon Brown to generate a counter-cyclical surplus – not Northern Rock – will stand out as the greatest error of his Chancellorship.

In what's fast turning out to be a great work of foresight, Larry Elliott, Economics Editor at the Guardian and Dan Atkinson of the Mail on Sunday said in their book, Fantasy Island, that the economic legacy of Blair's Britain was a nation trying to live beyond its means at every level.

Well now, payback time is approaching, and for many Britons, the price will be high.

Tomorrow: Jayne Dowle on the price that families are paying.

Dan Lewis is research director of the Economic Research Council www.ercouncil.org