Only rate cuts can save us

This will be 'the year the luck runs out' for homeowners, consumers and the Chancellor, leading economist Roger Bootle warns today, predicting that the Bank of England will have to slash interest rates to stave off a recession.

In his quarterly economic health-check for accountant Deloitte and Touche, Bootle warns that as the housing market downturn accelerates, economic growth will slow to 2 per cent this year, from well over 3 per cent in 2004.

'There are two big stimuli that are going to give out: the housing market, and government spending,' he says. Gordon Brown's cash splurge on schools and hospitals has helped to prop up the economy over recent years, but in last summer's Spending Review the Treasury announced an easing in the pace of spending growth.

'Even if you assume that there are no tax rises, the change is going to be devastating,' says Bootle, who expects the Chancellor to exacerbate the slowdown next year by pushing up taxes.

He also believes unemployment could start to creep upwards as a knock-on effect of the rapid slowdown in the housing market, with layoffs in the construction sector, followed by other firms dependent on a buoyant housing market, such as retailers, hotels and restaurants.

With slowing government spending, falling house prices and rising unemployment, Bootle says the only cause for hope is that the Bank of England will have room to cut interest rates rapidly. 'I wouldn't say that a recession is likely, but I wouldn't dismiss it: you've got several key dangers, and they're interactive, so the Bank has a major role here. You've got to hope that they could fend it off.'

He predicts that borrowing costs will fall from 4.75 per cent currently to just 4 per cent by the end of 2005, with the first rate cut expected in May, but perhaps as soon as next month, when the Bank publishes its latest set of economic forecasts. 'I think the next month's data are crucial,' he says.

Bootle's gloomy prognosis echoes a separate survey, published today by Ernst and Young, showing that Britain's firms issued 40 per cent more profit warnings last year than in 2003. Small firms had the most difficult year, and more than half cited either 'sales short of forecasts' or 'difficult trading conditions'.

In a clear sign that the housing market slowdown is already beginning to hurt construction firms, housebuilder Westbury is offering £12,000 in cash to anyone buying one of its houses before the end of February.

The incentive, at the start of the key spring selling season, is the biggest seen from a mass market housebuilder since the last housing slump in the early 1990s. Most developers insist it will be different this time round, arguing that the industry has been more prudent about the size and cost of their landbanks and that changing demographics and pent-up demand means that the housing market will not crash.