Rate cut talk whips up traders

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SPECULATION IN the City about another substantial cut in UK interest rates reached fever pitch yesterday, with some traders betting that the Bank of England could even decide to cut rates by as much as a full percentage point.

A combination of a gloomy retail survey released late on Monday night and a call by the Financial Times Lex column for a one-point cut fuelled the rate hopes, analysts said.

A separate survey released by BDO Stoy Hayward and the Centre for Economics and Business Research also added to the pressure on the Bank's rate-setting Monetary Policy Committee (MPC), which begins its two-day meeting this afternoon. BDO's finding that British business expects the UK economy to move into recession by the middle of next year helped keep the FTSE 100 in positive territory despite a weak start on Wall Street.

December short sterling jumped as traders gambled on a significant rate cut tomorrow, and the pound slid almost a pfennig against the German mark to close at DM2.761.

However, many analysts cautioned that the market was being overly optimistic about the interest-rate outlook, and warned that there could be widespread disappointment when the Bank announces its decision at midday tomorrow.

Despite the feverish speculation on the trading floors, most economists still expect the Bank to move rates down by just a quarter of a percentage point to 6.5 per cent.

Neil Parker, treasury economist at Royal Bank of Scotland, warned: "I see great scope for the markets being disappointed on Thursday and not much for them being pleasantly surprised."

Richard Iley at ABN Amro said: "I still think a 25 basis point [0.25 percentage point] cut is the most likely scenario. There's a lot of speculation about a 100 basis point [1 point] move, but I think that is wide of the mark."

Nick Stamenkovic, chief economist at Bank Austria Creditanstalt Futures, said: "The markets have factored in a 50 basis point cut tomorrow. If [the Bank] cuts by 25 basis points I think sterling will get a lift and equities will be disappointed. No cut at all could be disastrous for equities."

Since the Bank announced an unexpectedly large rate cut at the start of last month there has been a series of gloomy economic data. The UK's trade deficit hit a record high and official figures have offered evidence of tumbling retail sales and manufacturing output. Anecdotal survey data have painted a bleak picture of the economic outlook. According to business surveys, even the UK's hitherto buoyant service sector is feeling the pinch.

Last week's unexpected cut in interest rates across Europe to just 3 per cent has also helped strengthen the clamour for the third fall in UK rates in as many months.

Ken Jackson, general secretary of the Amalgamated Engineering and Electrical Union, said: "UK interest rates are twice as high as most of Europe. If UK manufacturing is to compete abroad we need a dose of the same medicine."