The German Chancellor, Angela Merkel, has warned David Cameron she would be prepared to see Britain leave the EU rather than give in to his demands for new quotas on migrant workers coming to the UK.

Ms Merkel is understood to have told the Prime Minister he is approaching a “point of no return” where his demands for changes in Britain’s relationship with the EU are not acceptable to Germany.

Her comments come ahead of a key speech, currently being worked on in Downing Street, in which Mr Cameron will spell out his plans for EU Labour market reform as part of his proposed renegotiation of Britain’s membership.

Last month Downing Street sources suggested that the Prime Minister was looking at a system to control EU migration by capping the national insurance numbers issued to foreign workers.

But the out-going President of the European Commission suggested that such a proposal would be incompatible with the principle of freedom of movement which was an “essential” part of the union. This is a sentiment shared by Ms Merkel.

Speaking after a meeting of the European Council last month, Ms Merkel said Germany would not interfere with the basic principle of freedom of movement, but emphasised: “That doesn’t mean that there aren’t various problems.”

Ms Merkel added that she had discussed these problems with Mr Cameron, including benefits for unemployed EU migrants. She added: “However, it is my view that this must be resolved in a way that on the one hand allows us to tackle abuses, but on the other, does not deviate from the basic principle of freedom of movement in Europe.”

Yesterday there were signs that the German warning may have been heeded by Mr Cameron. The Sunday Times reported that the Prime Minister was looking at ways to stretch existing EU rules “to their limits” rather than insist on measures that would require a treaty change.

Tory MPs who want to leave the EU Show all 4 1 /4 Tory MPs who want to leave the EU Tory MPs who want to leave the EU Mark Reckless MP for Rochester and Strood. Will tell his constituents he will vote “out” in 2017 no matter what concessions David Cameron wins from EU. Has called for “level playing field” referendum with no recommendation from Mr Cameron on how people should vote Rex Tory MPs who want to leave the EU David Nuttall MP for Bury North. Has said: “I am fed up with this country being told what to do by other countries in the EU, which is why I believe we should leave the EU and instead have free trade agreements with EU countries.” Tory MPs who want to leave the EU Heather Wheeler MP for Derbyshire South. She has said: “I have decided enough is enough and that Britain really is better off out. We should be part of a free trade association, not a political union.” Tory MPs who want to leave the EU Gordon Henderson MP for Sittingbourne and Sheppey. He has said: “My reason for wanting to leave the EU is simple. Britain needs to retain control of its own destiny if it is to remain a sovereign nation.”

This could include deporting foreign nationals after three months if they had not found a job and were unable to support themselves.

“The focus is on drawing up a German-compliant package of measures,” one minister said. “Cameron needs to square Merkel or we won’t get anything. We’ve got to stretch the existing rules to their limits. There is no right in the EU to stay somewhere if you can’t support yourself after three months. That will be part of the package, I have no doubt.”