The Bank of England slashed interest rates by 1.5 percentage points to 3 per cent yesterday, their lowest level in more than 50 years, as the International Monetary Fund forecast that the UK would be the world's worst-performing major advanced economy next year. Britain's economy will shrink by 1.3 per cent in 2009, the IMF said, the first full year of decline since 1991.
The IMF downgraded its forecast for every sizeable economic power in the world, but it was the British economy that was singled out for the most savage treatment; a cut of 1.2 per cent. Ministers have claimed the UK is the best-placed among the developed economies to withstand the rigours of recession, a stance clearly now contradicted by the IMF. The IMF also warned that the advanced nations as a group would suffer recession next year, something not witnessed since the Second World War.
Signs of continuing weakness among Britain's banks and in the wider economy were behind both the Bank's historic decision and the IMF's forecast. Implementing one of the largest reductions in borrowing during its 314-year history, the Bank's Monetary Policy Committee warned: "Since mid-September, the global banking system has experienced its most serious disruption for almost a century. While the measures taken on bank capital, funding and liquidity... have begun to ease the situation, the availability of credit to households and businesses is likely to remain restricted for some time." The cut follows the "emergency" international co-ordinated cut of 0.5 percentage points last month.
Yesterday, Gordon Brown led calls for banks to pass on the rate cut to struggling mortgage-holders and businesses.
The Bank's latest move can be seen as a "catch-up" exercise, because it has been slower to cut rates than some of its counterparts such as the US Federal Reserve, which pushed rates down to 1 per cent, and the European Central Bank, which cut rates by a half-point, to 3.25 per cent, leaving European rates higher than UK ones for the first time since the euro was launched a decade ago.
The IMF puts the UK's burden of debt at the centre of her problems, and is sceptical about the effectiveness of the Bank of England's strategy. Jorg Decressin, chief of world economic studies in the IMF's research department said: "Despite aggressive easing by the Bank of England, money market rates remain elevated and it remains to be seen how effective the latest cut will be in lowering market rates. Financial conditions are set to tighten further until leverage finds a new, lower equilibrium, which would permit markets to find a firmer footing... the recovery is likely to take time. Accordingly, concerns that this will be a deep downturn have mounted, leading households and firms to cut back consumption and investment plans."
Yesterday, yet another set of varied but gloomy data was released: new car sales down 23 per cent on the year; house prices down 15 per cent, and construction orders down 11 per cent on the quarter. That was in the public domain. But immediately the cut was announced at noon, the question went round the City: "What does the Bank of England know that we don't?"
The Bank's own growth forecasts are to be published next Wednesday in its inflation report. The Governor, Mervyn King, has already declared the UK is "likely" to enter a recession soon. The Bank said it had implemented the largest cut in interest rates since 1981 because of the "very marked deterioration in the outlook for economic activity at home and abroad". The UK economy has already shrunk, by 0.3 per cent in the third quarter, having ground to a halt in April to June this year. The Bank says "business surveys and reports by the Bank's regional agents point to continued severe contraction in the near term".
Concerns focus on how quickly the Bank's rate cuts will be passed on to consumers. The TUC said that "the real challenge is to ensure these cuts are passed on to business and mortgage customers. Many banks seem to be more interested in hanging on to their bonuses than using the huge bailout from the taxpayer for its proper purpose of getting the economy moving again."