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Bank of England slashes rates by 50bp

January 09, 2009 | "Barron’s Econoday"

The Bank of England monetary policy committee cut interest rates 50 basis points to 1.5 percent as it continues to aggressively try to breathe life into the sinking economy. Since the joint rate cut with the Federal Reserve and other central banks in October, the MPC has reduced rates by 300 basis points. Analysts’ expectations ranged from unchanged to a 100 basis point cut. Since its creation in 1694, the Bank’s rate has never been below 2.0 percent. At its previous meeting in December, the Bank cut rates by 100 basis points to 2 percent for the first time since 1951, after which the economic outlook deteriorated even further.

Recent economic data have been dreadful and there is mounting evidence that job losses are picking up pace. The Chartered Institute of Purchasing and Supply/Markit December service sector survey found companies are cutting jobs at the fastest rates in over 12 years. The CIPS manufacturing survey showed companies in that sector laying off workers at the fastest rate in 17 years.

Now the main question appears to be whether the BoE will pursue the U.S.-like strategy of 'quantitative easing' or buy up frozen assets in an effort to pump liquidity into the financial markets. The Bank‘s own credit conditions survey recently pointed to ongoing tightness, adding to the argument that banks continue to limit lending to consumers and businesses and fuelling speculation that cash injections into the financial system could be the only way to unfreeze the market system. In its statement, the monetary policy committee said --

“The Bank of England’s Monetary Policy Committee today voted to reduce the official Bank Rate paid on commercial bank reserves by 0.5 percentage points to 1.5%.

“The world economy appears to be undergoing an unusually sharp and synchronised downturn. Measures of business and consumer confidence have fallen markedly. World trade growth this year is likely to be the weakest for some considerable time.

“In the United Kingdom, business surveys suggest that the pace of contraction in activity increased during the fourth quarter of 2008 and that output is likely to continue to fall sharply during the first part of this year. Surveys of retailers and reports from the Bank’s regional Agents imply that consumer spending has weakened. The outlook for business and residential investment has deteriorated. And the availability of credit to both households and businesses has tightened further, pointing to the need for further measures to increase the flow of lending to the non-financial sector. But the substantial depreciation in sterling over recent months may help to moderate the impact on UK net exports of the slowdown in global growth.

“CPI inflation fell to 4.1% in November. Inflation is expected to fall further, reflecting waning contributions from retail energy and food prices and the direct impact of the temporary reduction in Value Added Tax. Measures of inflation expectations have come down. And pay growth remains subdued. But the depreciation in sterling will boost the cost of imports.

“At its January meeting, the Committee noted that the recent easing in monetary and fiscal policy, the substantial fall in sterling and the prospective decline in inflation would together provide a considerable stimulus to activity as the year progressed. Nevertheless, the Committee judged that, looking through the volatility in inflation associated with the movements in Value Added Tax, there remained a significant risk of undershooting the 2% CPI inflation target in the medium term at the existing level of Bank Rate. Accordingly, the Committee concluded that a further reduction in Bank Rate of 0.5 percentage points to 1.5% was necessary to meet the target in the medium term.

“The minutes of the meeting will be published at 9.30am on Wednesday 21 January.”

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