BOE May Need to Consider One-Point Cut, Davies Says

By Brian Swint

Oct. 27 (Bloomberg) -- The Bank of England may need to consider lowering its benchmark interest rate by a full percentage point next week as financial markets weaken, former Financial Services Authority chairman Howard Davies said.

``I would definitely be going for half a percent,'' at the next scheduled decision on Nov. 6, Davies said in an interview on BBC Radio 4 today. ``Depending on what I saw in capital markets, if I saw any nervousness, I might stick at that. If not, I might well go for 1 percent.''

The pound fell against all 16 of its most-traded counterparts today and reached the lowest since 2002 against the dollar last week as evidence mounted that the economy is mired in a recession. The Bank of England, led by Governor Mervyn King, this month lowered interest rates by a half point in joint action with central banks around the globe to stem the financial crisis.

``I would certainly vote for a cut,'' said Davies, a former deputy governor of the central bank. ``I don't think that the fall in the pound invalidates the argument.''

The bank will bring the main rate down to 3.5 percent from the current 4.5 percent by the end of the year and to 2 percent in 2009, Howard Archer, an economist at IHS Global Insight, Inc., predicted today. The bank may move by a point next week or make another emergency cut before the Nov. 6 decision, he said.

A reduction of a full percentage point, which would be the largest drop since the U.K. central bank won the power to set interest rates independently in 1997, has become ``a very real possibility,'' Nick Kounis, an economist at Fortis in Amsterdam and a former U.K. Treasury official, said in a note today.

`Psychological Warfare'

Prime Minister Gordon Brown said yesterday that central banks around the world have scope to take a decision on interest rates, in an interview with the BBC. The Times of London today said that pressure is growing on the U.K central bank to perform another emergency cut this week after the economy contracted the most since 1990 in the third quarter.

``They need very quickly now to get ahead of the curve,'' the Times cited Sushil Wadhwani, founder of Wadhwani Asset Management and a former Bank of England policy maker, as saying. ``The time has arrived to deliver positive surprises -- it is psychological warfare.''

The pound's decline to as low as $1.5279 today, close to the weakest since August 2002, is unlikely to put pressure on inflation and its drop isn't yet enough to forestall rate cuts, Davies said today.

``Clearly if sterling started to fall precipitately, and international financial markets became anxious about lending to the U.K., then that would be a problem,'' Davies said. ``I don't think we're at that point yet, but it was interesting that Mervyn King signaled it'' in a speech last week.

King suggested the pound may fall further as the economy adjusts away from its dependence on consumption and foreign investment.

``The only thing that would cause me to be hesitant about a very big cut, but which I mean 1 percent or more, would be this point about our vulnerability to external flows,'' Davies said.

To contact the reporter on this story: Brian Swint in London at bswint@bloomberg.net.