Speculation that the Bank of England will order a surprise cut in interest rates today for the second month in a row rose yesterday after new figures showed the service sector ground to a halt last month.
Hopes of a rate cut today by the European Central Bank were also boosted after a senior eurozone politician said the bank had "room for manoeuvre".
A key survey of British managers showed the service sector came close to stagnation in February. The Chartered Institute of Purchasing and Supply said managers blamed the twin effects of depressed market conditions and growing uncertainty.
Its index tumbled from 52.3 to 50.2 on a scale where a number below 50 represents contraction. The main culprit was a fall in new orders as clients deferred orders. Firms accelerated their job-cutting programmes and a rise in raw materials' costs and a cut in the prices charged by companies pointed to a squeeze on profits margins, the survey showed.
Although economists in the City were unanimous a few days ago that the Bank would leave rates on hold, the survey clearly sent last-minute nerves through dealing rooms. "For a central bank that seems intent on maintaining growth at all costs, this ... makes the rate decision a closer than expected call," said John Butler at HSBC. Deutsche Bank raised the odds of a cut today to 40 per cent.
Economists believe the inflationary impact of the 4 per cent fall in the pound over the past month will stay the hand of the majority on the Bank's Monetary Policy Committee.
The FTSE 100 index of leading shares closed down 1.7 per cent, although analysts said much of this was driven by the dividend warning by Friends Provident that raised fears of shrinking dividend payouts.
The market reaction to the data was dampened by the fact that the UK performed better than the eurozone, where the services sector shrank for the first time in five months. The slump was the latest piece of poor data out of the 12-nation area and boosted hopes the ECB would act today to boost growth and confidence. The online analysts firm4CAST said there was a 65 per cent chance the ECB would order a dramatic half-point cut in rates.
Didier Reynders, the Belgian Finance Minister, said the ECB had "room for manoeuvre" to cut rates. "I'm not saying tomorrow but over the next few weeks," he said. He said the rise in the value of the euro against the dollar was not a worry as it helped to control the impact of the spike in the oil price.
Mr Reynders said he did not believe there would be any economic impact from the political rift between the US and the European powers. "US companies take their decisions in relation to rates of return on investment," he told The Independent.
Join our new commenting forum
Join thought-provoking conversations, follow other Independent readers and see their replies