TEP – 15 November 2007

The Bank of England has given its clearest signal yet that interest rates have peaked and will need to be cut next year as the UK economy slows.

In its quarterly Inflation Report, the central bank predicts that inflation will move back to its 2pc target in 2009 despite edging above it next year. The Bank's predictions are based on interest rates falling from their current rate of 5.75pc to 5.5pc in the first quarter of next year.

The signal marks a sharp turnaround for Governor Mervyn King who in August indicated that rates would need to move to 6pc to keep inflation close to its target during the next two years.

"The central projection is for growth to slow sharply in the next year," Governor King said at a press conference.

"There has been some tightening of credit. Residential and commercial property investment are likely to moderate, possibly quite sharply. The near term outlook is less benign for both inflation and growth."

Since then the turmoil in the world's financial markets has left many of the world's biggest banks nursing losses, cutting jobs and restricting their lending. For Governor King and the rest of the Monetary Policy Committee, it comes on top of an already slowing housing market in the UK.

The Quarterly Inflation Report warned today that "further financial market fallout, either at home or overseas, poses the biggest downside risk to activity."

However, the Bank is also having to balance the potential drag on economic growth from the credit crisis with the existing inflation in the economy.

The Office for National Statistics yesterday reported that the Retail Price Index, which measures prices across Britain, rose by 4.2 per cent in the year to October.

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