UK's Interest Rate Reaches 1.5%, Lowest Level In More Than 300 Years

Consistent with market expectation, the Bank of England slashed interest rate by 50 bps to 1.5%, historic low level since the central was established in 1694. The decision made by the committee was in response to dramatic slowdown in economic activities as indicated in 4Q08 data. Moreover, downward momentum of inflation remains strong and there's high chance of falling below 2% in coming months.

In the post-meeting statement, the BoE made several points on economic outlook and approach of monetary policy in the future:

1. Credit supply remains tight and 'further measures' are necessary to increase the flow of lending to the non-financial sectors. We believe the 'measures' would be extra liquity supports and debt guarantees apart from cutting interest rates further.
2. The central bank is not very much worried about depreciation of the pound at current stage as it 'helps to moderate the impact on UK net exports of the slowdown in global growth'. However, it also noted that weak sterling will also increase cost of imports.
3. Economic contraction in the UK has been very rapid in 4Q08 and further weakness is anticipated in early part of 2009. Concerning inflation, the committed stated that 'there remained a significant risk of undershooting the 2% CPI inflation target in the medium term at the existing level of Bank Rate'. Note that the word 'substantial risk' used in November and December was replaced by 'significant risk'.

We expect further rate cut in February's meeting, probably by another 50 bps, as UK economy continues to weaken and inflationary pressure lessens. Furthermore, although not emphasized in the statement, quantitative easing may be carried out as policy rate approaches zero.