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Shares hit as hopes fade of new rate cuts
Hugo Duncan, Evening Standard8 Feb 2008
The Bank of England today cut interest rates by a quarter of a percentage point - but appeared to dash hopes of heavy reductions in the coming months.
Rates were lowered from 5.5% to 5.25% by the Bank's monetary policy committee as the credit crunch threatened economic growth in Britain. But the MPC, led by Governor Mervyn King, warned that inflation was still on the rise, casting serious doubts over whether rates will fall as far or as fast as expected.
The European Central Bank, meanwhile, left rates on hold at 4%.
The hawkish statement from Threadneedle Street shocked the City and sent shares tumbling. The FTSE 100 index was off about 40 points before the MPC decision but dramatically added to its losses to be 111.2 down at 5764.2. Sterling briefly rallied against the dollar before settling down 1.13 cents at $1.9497.
Click here for the MPC's statement in full
The US Federal Reserve has slashed rates from 4.25% to 3% in recent weeks to stave off recession across the Atlantic.
King and the MPC were under pressure to follow suit to boost economic growth in Britain, but today seemingly slammed the door on such drastic action.
It acknowledged that "disruption to global financial market has continued", and credit conditions for UK households and businesses "are tightening". It also said that "consumer spending growth appears to have eased".
However, it voiced serious concern about inflation, which is running above the 2% target at 2.1%.
"Higher energy and food prices are expected to raise inflation, possibly quite sharply, in the coming months, and the lower level of sterling will boost import costs," it said.
"The impact on inflation should begin to fade later in the year but measures of inflation expectations are currently elevated. These developments pose upside risks to the outlook for inflation further ahead.
"The committee needs to balance the risk that a sharp slowing in activity pulls inflation below the target in the medium term against the risk that elevated inflation expectations keep inflation above target."
Jonathan Loynes of Capital Economics said that "quick and aggressive" rate cuts were now off the agenda.
"It was a very balanced statement and there is nothing in it to suggest the bank is considering cutting interest rates again soon," he said. "The result is that the downturn in the economy will be longer and deeper. This is bad news for the economy. There is no quick dose of medicine."
All eyes will be on the Bank's quarterly inflation report which is published next week. The Ernst & Young ITEM Club today warned that rates must be cut further to kickstart the economy, which looks increasingly unlikely to grow as fast this year as the 2% predicted by Chancellor Alistair Darling.
Peter Spencer, ITEM's chief economic adviser, said: "The Bank of England needs to cut interest rates by at least a further half a percentage point over the course of 2008 to bolster the economy and to prevent the crisis in the credit markets sparking an economic downturn."
Trevor Williams, chief economist at Lloyds TSB, said: "We can probably expect to see a modest rate cut in the spring, most likely in May, when evidence of a slowdown will be clearer.
"But given that inflation continues to rise above its target of 2%, we're unlikely to see base rate drip much further this year, unless the economy really does take a turn for the worse."
