Plunge in factory and service output piles on pressure for interest rate cut

CBI Conference: Business leaders seek reassurance from the Government as manufacturers' gloom deepens

Hopes of a large cut in interest rates this week surged yesterday after new figures showed that manufacturing plunged at its fastest rate for almost a decade in the month of the US terrorist attacks while the services sector also suffered another fall in September.

The drop of 1.6 per cent in the output of the UK's factories was the worst since May 1992 and was far worse than the gloomy 0.7 per cent fall expected by City economists. The news deepened an already growing mood of gloom at the CBI's annual conference. It came a day after the CBI called on the Bank of England to cut interest rates by half a point this Thursday to "put back the wind into the sails of the economy".

Ian McCafferty, the chief economist at the organisation, tried to prevent a feeling of panic, pointing out that the scale of the collapse might have been exaggerated by the unexpected revival in August. "The data provide confirmation of the deepening downward trend in industrial output, which began well before 11 September," he said.

In his address to the CBI, Tony Blair acknowledged the pain in the manufacturing sector but offered no sign of any direct help. "Apart from currency stability, there is no realistic alternative to a policy of economic discipline and improving productivity," he said. "This is one reason why the euro could be of benefit to manufacturers."

But the Prime Minister insisted there was no short-term fix. "It is not so much the strength of the pound but the weakness of the euro, but there's no way artificially we can get that situation to change."

Mr Blair was pressed by business managers in the audience over the problem of the "two-speed" economy with consumer spending still booming while manufacturing suffered its worst recession for a decade. But Mr Blair told a packed auditorium: "The thing about the two-speed economy is that we should be grateful that the consumers are spending and it is important that they are spending for the overall economy."

According to the official figures, the output of Britain's factories was 3.7 per cent less than a year ago compared with 2.3 per cent in August when there was an unexpected improvement that may now have proved to be erratic.

National Statistics said that the manufacturing sector was contracting at a trend rate of 5.0 per cent, and economists fear its plight threatens to contaminate the once-booming services sector.

The Chartered Institute of Purchasing and Supply, whose survey is based on some 600 executives, said activity in the sector fell in October at the fastest rate since it launched its survey in 1996. "The decline is very much in the airline, hotel and restaurant area. We have to remember that the three are related ­ if people aren't flying, they won't be booking hotels," said David Rich-Jones of CIPS.

Economists said the reports showed the UK economy was in the grip of a sharp slowdown and raised the chances that the Bank of England would cut interest rates by a half-point when it meets tomorrow and Thursday. "These do appear to be absolutely terrible data," said Richard Iley, UK economist at investment bank ABN Amro. "I think the MPC [Monetary Policy Committee] has a lot of room to manoeuvre." Rates are at a 37-year low of 4.5 per cent and some economists believe they could fall as low as 3.75 per cent.

The British Retail Consortium last night reported a surprise increase in retail sales last month with consumer confidence remaining healthy. Like-for-like sales were 6 per cent higher than in October last year, compared with a 5.7 per cent increase in September. Total sales advanced 8.6 per cent.