UK interest rates cut to historic low of 1.5%

THE Bank of England made history today by slashing interest rates to an all-time low of 1.5%.

Rate-setters cut borrowing costs from 2% to 1.5% – the lowest since the Bank was founded in 1694 – but disappointed those looking for an even bigger move to combat a worsening recession.

The Bank is attempting to offer relief to borrowers and businesses but mortgage customers have been warned not to expect lenders to pass on the cut in full.

The Bank said the world economy "appears to be undergoing an unusually sharp and synchronised downturn". UK output is likely to continue to fall sharply during the first part of this year, it said.

But the cut in rates was lower than in the past two months as the "substantial depreciation" of the pound gave it room to manoeuvre.

The Bank said the recent deep rate cuts and Government spending plans, the fall in sterling and lower inflation would "provide a considerable stimulus" to the economy as the year progressed.

The Bank's Monetary Policy Committee (MPC) has now cut rates by a mammoth 3.5 percentage points since the beginning of October as concerns over a lengthy recession overshadow previous inflation fears.

Its latest credit conditions survey warns that lending to households and businesses is set to fall further during the first three months of this year, despite a taxpayer-funded bail-out of the UK banking system.

The MPC also weighed up a raft of gloomy economic data on falling house prices, as well as manufacturing and services activity close to record lows – despite hopes of an export boost from a pound hammered by the recent rate cuts.

Meanwhile, retailing casualties such as Woolworths and Zavvi have mounted on the high street as shoppers cut back.

But today's half-point reduction is lower than the 1.5% and 1% cuts seen in November and December.

Speculation is mounting that the Bank and the Treasury could agree a policy of so-called "quantitative easing" – effectively printing more money – to spur on the economy with rates approaching zero and banks still reluctant to lend.

Ian McCafferty, chief economic adviser to the CBI business group, said: "Today's more modest interest rate cut reflects the Bank's recognition that interest rate reductions on their own cannot restore credit flows, the most important factor determining the prospects for the economy.

"However, this move to support business and consumer confidence will be welcomed."

Manufacturers said the MPC should have gone further by cutting rates another full percentage point as the recession deepens at home and abroad.

Steve Radley, chief economist at the EEF manufacturers' organisation, said: "Whilst the Bank has indicated it wanted to take a measured approach to cutting rates, this is too timid to deal with the current situation.

"Given the expectation that rates will be cut again, the question has to be asked 'why wait?'."

Hetal Mehta, senior economist at the Ernst & Young ITEM Club, added: "With survey data continuing to languish at record lows – manufacturing and services surveys in the past few days have confirmed that activity is falling sharply – we see no reason for the Bank to hold back in cutting interest rates to 1% or below in the coming months."

The cuts have come because the MPC's mandate is to keep official inflation at 2%.

It is currently well above target at 4.1%, but will fall dramatically as prices tumble on lower demand in a recession, while moves such as the Government's VAT cut add to the downward pressure.

How much homeowners and borrowers will gain from any rate cut remains to be seen after building society Nationwide said it would invoke a "collar" clause enabling it to stop reducing rates on most of its tracker mortgages. Other lenders could follow suit.

But savers are also in the spotlight following the huge rate cuts seen so far – with those such as pensioners relying on savings to top up their income punished by the lower return on the nest-eggs.

This week the Conservatives outlined plans to help protect savers by proposing to abolish tax on the interest of basic-rate taxpayers' savings.