Follow the leader

The Bank of England should shamelessly copy the tactics employed by America's Federal Reserve. The US central bank cut interest rates by 0.5% this week when no one was expecting any reduction, let alone such a big one.

The strategy was clear: since interest rates would almost certainly have to go down by that amount during the next few months to stem the economy's slide into recession, then they might as well go down now. At a stroke this did two things. First, it restored the Fed's ability to move ahead of market pressures and not after them, a skill it was in danger of losing; and, second, it proved that the Fed can make decisions in "internet time" as speedily as US corporations can.

A new feature of this recession is that companies like Cisco, Dell and IBM, know almost instantly when sales drop or stocks pile up because they are monitoring them continuously online. This makes downturns happen more quickly and (hopefully) recoveries, too. The Fed has proved that it can also respond quickly to changing data about the economy. Britain and Europe should follow suit. In Britain's case, if the Bank expects interest rates to drop by 0.5% over the next few months, then it might as well get it all over with at its next meeting: that would also let it off the hook of changing rates during the election campaign.

Yesterday's encouraging figures show, too, that there is very little inflationary pressure ahead, except perhaps for rising petrol prices. This means that a reduction in interest rates could stimulate economic activity - and maybe reduce the value of the pound on the foreign exchange markets - without pushing prices up. The UK is in danger because of its exposure to the sinking US economy, aggravated by the fall in share prices and the fallout from foot and mouth disease. Britain's economic health is very sensitive to the success of two areas that are particularly vulnerable right now: financial services and the technology, media and telecommunications sector. As the Bank of England noted this week, this sector has accounted for all of the increase (paltry though it is) in UK manufacturing output since 1995.

It is sobering to be reminded that if Britain had been part of the single currency then we would not have been able to reduce interest rates at all because the European Central Bank (ECB) has kept rates on hold at 4.75% since last October and it is showing no sign of relenting. Yet the danger from higher inflation in Europe is much less than the danger of underestimating the pace of the economic slowdown. The ECB, unlike the Fed, is only required to contain inflation and not to take growth into account. It is now caught in the middle between countries like Germany, which desperately want lower interest rates to stimulate growth, and those like Ireland and Spain that do not. Germany is the largest economy in Europe with the biggest exposure to the US because of its success in exporting.

But Germany is the exception. The economy of the EU as a whole is remarkably self-sufficient. Well over 90% of gross national product is generated internally and for most of the recent past it has enjoyed a trade surplus (in contrast to the huge US trade deficit). It is time for Europe to test the potential of the new trading block it has created by lowering interest rates to stimulate activity. Nearly all of the increased trade will be importing and exporting from each other with little risk of igniting inflationary pressures. And if international investors are persuaded that Europe will expand at a sustainable rate, then the long suffering euro will be the first to feel the benefit.