Growth warning prompts rates cut speculation

Expectations of a cut in interest rates rose today following warnings from a Bank of England policy maker that economic growth could fall short of Bank forecasts.

Stephen Nickell, a member of the Bank's monetary policy committee (MPC), issued the warning in an interview with the Financial Times. He said there was a "serious risk" that economic growth would fall short of the Bank's August forecast, forcing the Bank to lower rates before the end of the year.

The Bank trimmed borrowing costs by a quarter-point in August to 4.5% - but only just. The MPC voted 5-4 for the cut, with Mervyn King, the governor of the Bank, in the minority.

Earlier this month, the Bank left interest rates unchanged. Minutes from that meeting, to be published on Wednesday, will reveal whether the MPC was more unified after the August split.

In his comments, Mr Nickell still forecast that the economy would bounce back and said the future course of interest rates depended on whether that came to pass.

"My best guess is that it will, but there is a serious risk that that won't happen, in which case we can respond to that," he was quoted as saying. "What happens to interest rates in the future depends very much on whether that forecast pans out."

His comments echoed a speech made on Friday by fellow MPC member David Walton, who said growth would probably recover and inflation would likely stay close to target.

But City analysts believe the Bank is too optimistic on its growth forecasts for next year.

"We really are more pessimistic than the Bank on growth prospects, particularly on consumer spending," said Howard Archer of Global Insight consultancy. "Even the more hawkish members on the MPC would acknowledge that there are significant risks to the downside on growth."

Like many economists, Mr Archer sees little scope for growth from elsewhere as consumer spending weakens. Companies are not making the necessary investments to pick up the slack.

The weakness in the retail sector was underlined in last week's report from the Office for National Statistics. Over the three months to August, retail spending was up by 0.8% on the previous quarter and by 1.2% on the June to August period of 2004.

But ONS officials stressed that the increase between the two latest quarters was flattered by the strong consumer performance in June and that more recent months had seen poor sales.

The consumer has been the driving force behind the UK economy in recent years, but the marked cooling in spending since last year has led to serious doubts about the growth forecasts from the Treasury and the Bank.

Although the closeness of the August interest rate decision forced some economists to reassess the prospects for further cuts, Mr Archer said he believed that another cut was likely before the end of the year.

"We expect further interest rate cuts will occur as extended below-trend growth reduce underlying inflationary fears. Indeed, we still believe that it is premature to rule out another 25 basis point interest rate cut before the end of this year, although we acknowledge that recent higher inflation data have increased the likelihood that it will be delayed until early 2006."