Alistair Darling is set to announce the new UKFI boss

Public sector pay must be "fair" to private-sector employees facing a recession-fuelled squeeze on wages, Chancellor Alistair Darling said after a spending watchdog called for a freeze.

Asked if he backed the calls from Audit Commission chief executive Steve Bundred for £5 billion savings to be found from the wage bill, he said: "Public sector pay obviously has got to reflect prevailing conditions, and in particular inflation has come way down.

"And of course we have got to be fair with regard to people who work in the private sector, many of whom have seen their pay conditions somewhere near freeze."

Mr Bundred wrote in The Observer that real-terms pay cuts across the public service, including the NHS and schools, would be a "pain free" way to help Britain recover from the downturn.

Workers, including those in the NHS and education, would "tolerate" a freeze as they had "done well" over the last 10 years, he said, to the fury of trades union leaders.

Mr Darling told Sky News' Sunday Live: "We will decide on our pay policy over the next few weeks. It has got to be fair to people who work for the public sector just as we have to be fair to the private sector."

The Chancellor also denied any rift with Prime Minister Gordon Brown over spending amid reports that he was among Cabinet ministers urging more openness about the need for future spending cuts.

Mr Brown and David Cameron have been engaged in bitter exchanges over the public finances, with the Tory leader openly accusing the PM of misleading voters about the depth of the problem.