Bank signals further rate cuts

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While a quarterly economic report from the Bank indicated two cuts to 4.75% by the end of the year, it dampened City expectations that stronger medicine might be on the way in order to combat slowing growth.

It said hasty cuts could see inflation exceed 3% in the coming six months, which would force Bank Governor Mervyn King to write a letter of explanation to the Chancellor.

But the Bank suggested that rates - currently at 5.25% after a cut last week - will need to come down as a further squeeze in credit markets threatens growth.

Mr King said the possibility of a recession - defined as two consecutive quarters of negative growth - was not far from the Bank's central projections, although he stressed forecasts did not point to a "serious downturn".

The inflation report gives a sobering outlook on growth and inflation over the next two years.

Inflation could spike in the next quarter and remain above the Government's 2% target at the end of the two-year projection period if rates were cut as much as markets expect.

Markets have already reined in expectations for rate reductions after the Bank's recent tough talk on inflation, forecasting a drop to 4.5% by the end of 2008.

The Bank predicted in the report that UK growth would slow sharply to less than 2% by the end of 2008, from around 3% currently, although Mr King said the outlook was less gloomy in the regions.

"It's striking that once you get away from London and the City, the mood is very different - there's caution, but not the doom and gloom you get from people connected with financial services and property," he said.