Bank of England Expected to Slash Interest Rates

The Bank of England, in an effort to help families and businesses to pull through the global economic downturn, is widely expected to follow Federal Reserves’ interest rate cut of 0.5% by cutting UK key rate, currently at 4.5%, by 0.5% or more at next Thursday’s monetary policy committee [MPC] meeting. If that happens, it would be UK’s first interest-rate cut of more than half bps since the early 1990s, when the country experienced a deep recession.

Citigroup (C), J.P. Morgan (JPM) and Bank of America (BAC), notes WSJ – on Friday all forecast a full-point cut, joining earlier predictions by HSBC (HBC) and BNP Paribas (BNPQY.PK).

“The economic and financial crisis is unusually severe,” Citigroup’s U.K. economist Michael Saunders wrote in an analyst note. “Households are retrenching sharply and corporate liquidity is worsening sharply — a precursor to further marked cutbacks in jobs and investment.” [WSJ]

The U.K.’s Office for National Statistics said that last week, Britain’s economy contracted 0.5% in the third quarter of current fiscal year. Because of both reduced services and production activity, this puts the country on course for its first recession since fiscal 1991.

Many analysts agree a cut in interest rates by a significant measure is necessary at this point in order for the British economy to avert the threat of deflation. Most economists now expect interest rates to fall as low as 3% in 2009.

UK’s inflation currently remains stubbornly high at 5.2%. The central bank however, expects it to fall to the government’s 2% target early next year. Chancellor of the Exchequer (U.K. Finance Minister) Alistair Darling said last week he was convinced inflation would fall back to its target rate of 2% as energy prices decline. In the past though, Bank of England has repeatedly failed to both control and forecast inflation accurately.

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