• By deciding not to cut interest rates today, the Monetary Policy Committee risks presiding over the deepest and longest economic downturn since the recession of the early 1990s. It will, I am confident, eventually cut rates dramatically – but too late to prevent the economy from flirting with recession.
• It is becoming more and more obvious that the economy is in serious trouble. While the Bank of England’s “Special Liquidity Scheme” may go someway to solving the problems in the financial markets, it is clear that substantial damage to the real economy has already been done.
• Mortgage lenders are raising their rates and withdrawing their products in droves. In March, the number of new mortgage approvals fell to its lowest level since 1992. And according to both the Halifax and Nationwide, house prices have fallen by around 5% from their summer highs. I think that this is the tip of the iceberg; by the end of next year house prices may have fallen by about 20%.
• The credit crunch and the housing slowdown are clearly taking their toll on consumers. The GfK reported that consumer confidence in April fell to its lowest level in 15 years. And the BRC and CBI surveys of high street activity are united in suggesting that consumers have started to keep their wallets in their pockets. What’s more, the slowdown in activity is not confined to the household sector. The 0.2% fall in industrial production in Q1 suggests that the lower pound is doing little to offset the impact from the global downturn.
• Admittedly, the MPC itself has said that interest rates need to fall further. But it is reluctant to cut rates any faster for fear of stoking inflation. Rising food, petrol and utility prices are likely to push CPI inflation above 3% later this year – which would prompt only the second ever explanatory letter from the Governor of the Bank of England to the Chancellor. And surveys suggest that the public thinks that inflation will ultimately rise to around 4%.
• But there is little sign that employers are compensating employees with larger pay rises. If wage increases fail to pick up then higher inflation will place a further dent in households’ real incomes. With the UK on course to record its weakest period of economic growth since the recession of the early 1990s, I think that inflation is unlikely to remain high for long. Once it starts falling, that will open up the possibility for the Bank to cut interest rates a long way.
• The MPC is probably more likely than not to cut interest rates from 5% to 4.75% in June. But the big cuts will happen later. I expect rates eventually to fall to 3.5% – if not even lower.

- Ends -

Notes for editors
This press release has been prepared by Roger Bootle, Economic Adviser to Deloitte.  If you have any questions regarding the views in it, please contact Roger Bootle directly on 07887 955 875 or 020 7823 5000 or via email on business@capitaleconomics.com.

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