Shock for UK as Bank of England halves its economic growth prediction

In a statement, the bank's nine-member Monetary Policy Committee (MPC) lowered its main interest rate by a quarter of a percentage point to 4.50%, taking it to its lowest level since mid-2023.

That decision was widely expected by the financial markets.

What wasn't expected was the scale of the growth downgrade in the bank's accompanying economic forecasts. The bank now predicts that the British economy will only grow by 0.75% this year, down from its previous forecast of 1.5% just three months ago.

If that turns out to be remotely accurate, it will be hugely disappointing news for the UK's Labour government, which has declared growth to be its number one mission with the aim of boosting living standards and generating funds for cash-starved public services.

With growth proving elusive, the party's popularity has fallen sharply since its election victory in July.

The Chancellor, Rachel Reeves, who faced criticism for raising taxes on business in her first budget last October, welcomed the interest rate cut.

But she said that she was "still not satisfied with the growth rate" and that the government will go "faster to kickstart economic growth".

Traders betting on more interest rate cuts

The government will no doubt be hoping that the central bank helps it out by cutting interest rates further over coming months as it will contribute to lower mortgage rates and cheaper loans, though reducing the returns offered to savers.

Financial markets remain uncertain as to how many additional reductions there will be this year as the bank is also forecasting higher than anticipated inflation over the coming few months.

It expects inflation to hit 3.7% sometime in the first half of the year, before drifting back towards its target rate of 2%.

Given that growth and inflation backdrop, Bank of Governor Andrew Bailey said the outlook for the British economy remained uncertain, and could get more uncertain if US President Donald Trump goes through with his tariff threats.

"We'll be monitoring the UK economy and global developments very closely and taking a gradual and careful approach to reducing rates further", Bailey said.

"Low and stable inflation is the foundation of a healthy economy and it's the Bank of England's job to ensure that," he added.

Two MPC members in surprise larger cut vote

A major surprise in Thursday's rate decision was that two of the nine members of the panel voted for an even bigger reduction of half a percentage point to 4.25%.

Luke Bartholomew, deputy chief economist at abrdn, formerly Aberdeen Asset Management, said the fact two did vote for a bigger cut "gives a sense of how concerned some policymakers are about the headwinds to growth".

The rate-setting panel doesn't directly target growth as its remit is to ensure that inflation, as measured by the consumer prices index, hits a 2% target over the coming couple years or so.

However, lower growth can keep inflation in check as it is an indication of lower demand in the economy.

Inflation predicted to fall further

Though inflation is standing at 2.5% and expected to rise in coming months, partly as a result of business tax increases from the new Labour government, most economists think it will then trend lower towards the target, hence the panel's ability to cut on Thursday.

Inflation is way down from levels seen a couple of years ago, partly because central banks have dramatically increased borrowing costs from near zero during the coronavirus pandemic.

Prices then began to shoot up, first as a result of supply chain issues and later because of Russia's full-scale invasion of Ukraine, which pushed energy costs higher.

As inflation rates have declined from multi-decade highs, central banks, including the US Federal Reserve have started cutting interest rates, though few, if any, economists think that rates will fall back to the super-low levels that persisted in the years after the global financial crisis of 2008-2009 and during the pandemic.