Bank cuts rates to shore up growth

LONDON - The Bank of England cut interest rates for the first time in over 2 years on Thursday in order to shore up the economy in the face of a global credit crunch after a week of feverish speculation over what it would do.

The quarter-point cut to 5.5 percent, which reversed July's hike, was needed, the central bank said, because economic growth was slowing and the state of financial markets was getting worse, piling pressure on both companies and consumers.

"The Bank of England has pulled the rip-cord to much lower rates," said David Brown, economist at Bear Stearns.

In the United States, where the market troubles began, the Federal Reserve has already chopped rates by 75 basis points and looks certain to cut again next week as the turmoil rages on.

A Reuters poll after the Bank cut put the chances of another reduction in Britain in the first three months of 2008 at 80 percent. Two-thirds said rates would hit 5 percent by June.

Retail and business groups cheered the early Christmas present and the government must be hoping the prospect of cheaper mortgage payments will revive flagging consumer spirits and restore Prime Minister Gordon Brown's poll ratings.

As expected, Halifax, the nation's largest mortgage lender, said it would cut its standard variable mortgage rate by 25 basis points for existing borrowers from Jan 1.

FROM SCROOGE TO SANTA

But some questioned whether a cut was really appropriate now given rising price pressures. In Frankfurt, the European Central Bank left interest rates on hold and a cut seems a long way off given euro zone inflation is at a 6-year high.

Even in London, Europe's biggest financial centre, most banks thought until this week that the Bank would keep interest rates unchanged this month given the soaring cost of food, oil and other commodities.

That changed on Wednesday when one survey showed house prices falling sharply and another that the country's huge services sector had slowed further in November. Banks tore up their forecasts of no change and tabloid newspapers started screaming for lower borrowing costs.

"If ever a rate cut was aimed at animal spirits in the economy this was it," said Andrew McLaughlin, Royal Bank of Scotland Group chief economist. "Inflation remains a concern for many committee members and some will have voted to cut through gritted teeth."

The Bank acknowledged that risks to inflation still lie on the upside but said the slowing in the economy should ease the pressure to raise prices.

Stock markets and interest rate futures which had initially rallied on the Bank decision fell back as investors took in the comments to mean that another cut was not inevitable.

"The MPC is trying to portray the move as bringing forward the timing ...rather than a downpayment on more," said Malcolm Barr, economist at JP Morgan.

"And the explicit mention of 'upside risks' to inflation , which the Committee will continue to "monitor carefully" serves to reinforce the hawkish tone of the statement as a whole."

Certainly, not all the economic data has been uniformly bad. Official figures out earlier on Thursday showed manufacturing output rising more than expected and other surveys have shown businesses not being hit too hard by the credit crunch.

"We're more likely than not to see some slowing down in the economy but I don't think it's cause for alarm at this point," RBS chief executive Fred Goodwin told reporters.

"It's not a bad picture. We're all expecting to see economic growth slowing down a bit, but the jury is out on how big a slowdown that will be."

Markets are now waiting for the minutes of the Bank's Monetary Policy Committee meeting in a couple of weeks to see how many members voted for a cut.

"Our baseline view is that there was a fairly clear majority in favour of a cut, with perhaps Andrew Sentance and Tim Besley remaining as hawkish dissenters," said Alan Castle, economist at Lehman Brothers.