DAVID Cameron's government has insisted it will push ahead with plans to restrict the free movement of labour from the European Union despite warnings from one of its main allies the issue is "not negotiable".

The warning from Germany was widely seen as a significant blow to the Prime Minister, who considers the country's chancellor Angela Merkel one of his key allies on the continent. The row also comes at a difficult time for Mr Cameron, weeks before a Westminster by-election in which he could lose to the eurosceptic Ukip.

The Tory leader is expected to set out his plans to cut EU migration in a speech before Christmas. Yesterday the Chancellor George Osborne insisted that the Coalition Government would push ahead with reform proposals.

"What we're going to address is this question of how freedom of movement operates in the 21st century," he said. "It was never envisaged that you would have such large numbers of people coming, people coming who don't have job offers, people who move onto our benefit system."

He added that ministers had had "good discussions" with the Germans on the issue.

Another Tory cabinet minister Iain Duncan Smith said there was a "remarkable degree of agreement" among EU nations about the need to restrict immigrants' access to benefits such as tax credits. No 10 is thought to be considering barring migrants from claiming the salary top-up until they have been paying tax in the UK for up to three years.

But the Work and Pensions Secretary suggested such a move would not contravene the EU's freedom of movement, saying most of the changes needed could be achieved by "changing the regulations and the rules within the existing agreements."

Yesterday a spokesman for Chancellor Angela Merkel said that Germany regards free movement of labour within the EU as "not negotiable".

His statement follow reports in the German magazine Der Spiegel that Mrs Merkel has warned David Cameron his drive against the principle, one of the founding tenants of the EU, was pushing the UK towards "a point of no return" and exit from the EU.

Yesterday, Mrs Merkel's spokesman Steffen Seibert also said that Germany continued to want "an active and engaged Great Britain within the EU". But he added: "The general principle of freedom of movement in the European Union is not negotiable".

The Prime Minister faces added pressure from former Tory leadership contender David Davis, who warned benefits reforms would not be "enough".

Without changes to free ­movement rules the UK would continue to be a draw migrants from countries where the average wage is one-eighth that of the UK's, he said.