CBI predicts interest rate will fall to 4.75%

Interest rates will have to fall below 5% for the first time in nearly 40 years to insulate the economy from the global downturn which began in the US last autumn, big business warned yesterday.

The Confederation of British Industry is predicting that to stave off recession the Bank of England will cut interest rates to 4.75% by the autumn. Borrowing costs were last below 5% in February 1964.

"With inflation firmly under control, we would hope to see interest rates down below 5% by the autumn," John Cridland, the CBI's deputy director general, said. "This should underpin the wider economy's prospects and allow the improved growth, which we are forecasting for the second half of this year."

If base rates fall below 5%, some homeowners with discounted mortgages could see interest costs drop as low as 4.5%. For the average homeowner on a variable mortgage, rates could fall below 6%.

Foot and mouth disease and the slowdown in the US will shave nearly a percentage point off economic growth this year, according to the CBI, which is forecasting the slowest annual growth in output for nine years - an increase of 2.1% this year compared to 3% last year.

Unemployment is likely to rise: the business lobby is forecasting a 12,000 rise to 1.62m jobless, using the wider international definition of the total which includes everyone looking for work.

Sudhir Junankar, the CBI's director of economic analysis, said: "Our forecasts show a significant cutback in economic growth this year due to the global slowdown and the wider impact of foot and mouth."

The CBI's latest snapshot of the manufacturing sector shows that the impact of the US slowdown is adding to pressures on firms already struggling with the renewed strength of sterling. Export orders tumbled to a nine-month low this month.

Stronger demand at home was not enough to offset the decline in overseas business and orders overall were at their lowest in two years.

"This survey shows there are still clouds over UK manufacturing," said Mr Junankar. "While it would be wrong to talk of outright recession, certain key sectors can expect a significant decline in output over the coming months."

The technology sector will feel the chill of any coming recession first. According to the CBI, hi-tech firms in telecoms and electronic engineering are likely to be hit hard.

The Bank has already cut rates by 0.75 percentage points since the start of the year. It has hinted that it is ready to take further action if the international outlook worsens.

While there were early hopes that the American slowdown might be shortlived, US firms are now cutting jobs at the fastest rate since the last recession and the CBI is pessimistic about the chances of a quick recovery.

"The positive news is largely illusory and the financial imbalances in the US economy suggest a longer and more painful period of adjustment may be on the cards," it warned.

There was also a risk that the sharp fall in stock prices over the last year could damage consumer confidence, triggering a sharp cutback in household spending, which would slow growth by more than the CBI forecasters were expecting.